Reference no: EM133088631

Question - Investment Timing Option: Decision-Tree Analysis - The Karns Oil Company is deciding whether to drill for oil on a tract of land that the company owns. The company estimates the project would cost $4 million today. Karns estimates that once drilled, the oil will generate positive net cash flows of $2 million a year at the end of each of the next 4 years. Although the company is fairly confident about its cash flow forecast, in 2 years it will have more information about the local geology and about the price of oil. Karns estimates that if it waits 2 years then the project would cost $5 million. Moreover, if it waits 2 years, then there is a 90% chance that the net cash flows would be $2.1 million a year for 4 years and a 10% chance that they would be $1.1 million a year for 4 years. Assume all cash flows are discounted at 9%.

Required - If the company chooses to drill today, what is the project's net present value?