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Consider an investment opportunity with an option to grow that requires a $4 million investment...

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Finance

Consider an investment opportunity with an option to grow that requires a $4 million investment today. In one year, you will find out whether the project is successful. The probability of being successful in year 1 is 20% and in this case the project generates $1.2 million in revenue per year in perpetuity; otherwise, the project will generate nothing. You have the option to grow --- at the end of year 2, you can double the size of the project on the original terms. The appropriate cost of capital is 12%. Calculate the following two:

I. The NPV of the investment opportunity WITHOUT the option to grow.

II. The value of the option to grow.

The value of the following two is closest to:

a.

I. -$2.0 million; II. $1.3 million.

b.

I. $0.0 million; II. $1.0 million.

c.

I. -$2.0 million; II. $1.0 million.

d.

I. -$1.0 million; II. $1.3 million.

e.

I. $0.0 million; II. $1.3 million.

f.

I. -$1.0 million; II. $1.0 million.

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