This question is a variant of the Sport Hotel example that was presented in clas

Question

This question is a variant of the Sport Hotel example that was presented in class, in the class notes, and in the Real Option chapter.

The change to consider is this: suppose that the value of the hotel is one of two values: $9.2 million if the city is successful in obtaining the franchise (and not $8 million as in the original problem) or $3.8 if the city is not successful in obtaining the franchise (and not $2 million as in the original problem). All other aspects of the problem are the same as originally presented. Incorporating these new values, and the real option, what is the new NPV of the project?

$ ??? million

Place your answer in millions of dollars using at least three decimal places. For example, the answer of nine hundred seventy five thousand would be entered as 0.975 and not as 975000.

Explanation / Answer

The total costs (construction cost) incurred up until point B = 1+2+2 = $ 5 million

If franchise is granted:

Hotel is completed - Hotel Worth = $ 9.2 million and Cost = $ 5million

NPV = (9.2 - 5) = $ 4.2 million

Hotel is not completed - Abandoned Hotel NPV = - $ 1 million

If franchise is not granted:

Hotel is completed - Hotel Worth = $ 3.8 million and Cost = $ 5 million

NPV = (3.8 - 5) = - $ 1.2 million

Hotel is not completed - Abandoned Project NPV = - $ 1 million

Related Questions

Navigate

• Browse (All)
• Browse T
• Subjects

Integrity-first tutoring: explanations and feedback only — we do not complete graded work. Learn more.