Make decision in year three whether replace model

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Reference no: EM132009258

Product to be produced for 10 years with possible upgrade in years 3. Basic product will be produced for 10 yrs. It will sell Model 1 for a max 10 yrs. Company will make the decision in yr 3 whether replace Model 1 in yr 4 and be produced thru yr 10. Model 2: Assume the PV3 of cash flows from yr 4 to yr 10 is $1,000. Investment Model 2: yr 3 is $950. The percent higher the cash flows could be 25%. Call option to make Model 2. Model 1: Assume the PV0 of cash flows from yr 1 to yr 10 is $800. Investment for Model 1 in yr 0: $810. Risk free rate is 4%. Hurdle return: 12%.

Reference no: EM132009258

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