An oil and gas company wants to decide whether to initiate a new project. The success of the project depends heavily on the state of the economy, which has a 50/50 chance of being strong enough to support the venture. The project will require an initial investment of $1 Billion dollars, and the company expects to earn $500 Millions in annual revenues from the project—unless the economy goes into recession, in which case the project will return only $100 Millions per year. The company requires a 17% return on its investments. Should it undertake the project? If the company decides to wait a year, the economy has a 75% chance of improving sufficiently to ensure $500 Millions in annual returns. Does it make sense to wait for a year before making the investment? Use the options model approach to project evaluation to answer these two questions.
An oil and gas company wants to decide whether to initiate a new project. The success of the project depends heavily on the state of the economy, which has a 50/50 chance of being strong enough to support the venture. The project will require an initial investment of $1 Billion dollars, and the company expects to earn $500 Millions in annual revenues from the project—unless the economy goes into recession, in which case the project will return only $100 Millions per year. The company requires a 17% return on its investments. Should it undertake the project? If the company decides to wait a year, the economy has a 75% chance of improving sufficiently to ensure $500 Millions in annual returns. Does it make sense to wait for a year before making the investment? Use the options model approach to project evaluation to answer these two questions.
Cornerstones of Cost Management (Cornerstones Series)
4th Edition
ISBN:9781305970663
Author:Don R. Hansen, Maryanne M. Mowen
Publisher:Don R. Hansen, Maryanne M. Mowen
Chapter19: Capital Investment
Section: Chapter Questions
Problem 10E: Roberts Company is considering an investment in equipment that is capable of producing more...
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An oil and gas company wants to decide whether to initiate a new project. The success of the project
depends heavily on the state of the economy, which has a 50/50 chance of being strong enough to
support the venture. The project will require an initial investment of $1 Billion dollars, and the company
expects to earn $500 Millions in annual revenues from the project—unless the economy goes into
recession, in which case the project will return only $100 Millions per year. The company requires a
17% return on its investments. Should it undertake the project? If the company decides to wait a year,
the economy has a 75% chance of improving sufficiently to ensure $500 Millions in annual returns.
Does it make sense to wait for a year before making the investment? Use the options model approach to
project evaluation to answer these two questions.
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