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Herman Co. is considering a four-year project that will require an initial investment of $9,000. The base-case cash flows for this project are projected to be $15,000 per year. The best-case cash flows are projected to be $22,000 per year, and the worst-case cash flows are projected to be $1,500 per year. The companys analysts have estimated that there is a 50% probability that the project will generate the base-case cash flows. The analysts also think that there is a 25% probability of the project generating the best-case cash flows and a 25% probability of the project generating the worst-case cash flows.

What would be the expected net present value (NPV) of this project if the projects cost of capital is 13%?

$29,981

$25,698

$28,553

$27,125

Herman now wants to take into account its ability to abandon the project at the end of year 2 if the project ends up generating the worst-case scenario cash flows. If it decides to abandon the project at the end of year 2, the company will receive a one-time net cash inflow of $4,750 (at the end of year 2). The $4,750 the company receives at the end of year 2 is the difference between the cash the company receives from selling off the projects assets and the companys $1,500 cash outflow from operations. Additionally, if it abandons the project, the company will have no cash flows in years 3 and 4 of the project.

Using the information in the preceding problem, find the expected NPV of this project when taking the abandonment option into account.

$33,293

$30,266

$34,806

$31,779

What is the value of the option to abandon the project?

$1,370

$1,713

$1,199

$1,542

$1,285

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