23 Jul WHAT IS THE VALUE OF THE TIMING OPTION TODAY?
Norris Production Company (NPC) is considering a project that has an up-front cost at t = 0 of $250 Show more Norris Production Company (NPC) is considering a project that has an up-front cost at t = 0 of $2500. (All dollars in this problem are in thousands.) The projects subsequent cash flows are critically dependent on whether a competitors product is approved by the Food and Drug Administration. If the FDA rejects the competitive product NPCs product will have high sales and cash flows but if the competitive product is approved that will negatively impact NPC. There is a 75% chance that the competitive product will be rejected in which case NPCs expected cash flows will be $750 at the end of each of the next seven years (t = 1 to 7). There is a 25% chance that the competitors product will be approved in which case the expected cash flows will be only $50 at the end of each of the next seven years (t = 1 to 7). NPC will know for sure one year from today whether the competitors product has been approved. NPC is considering whether to make the investment today or to wait a year to find out about the FDAs decision. If it waits a year the projects up-front cost at t = 1 will remain at $2500 the subsequent cash flows will remain at $750 per year if the competitors product is rejected and $50 per year if the alternative product is approved. However if NPC decides to wait the subsequent cash flows will be received only for six years (t = 2 7). In addition once NPC knows the outcome of the FDAs decision it will not take on the project if its NPV is negative. This is a risky project so a WACC of 16.0% is to be used. If NPC chooses to wait a year before proceeding What is the value of the timing option today? Answer Choices: $124.22 $138.02 $153.36 $170.40 $187.44 Show less
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