Question: Acme Mining Company is considering digging a new copper mine. The mining equipment will cost dollar 625 today, & in one year it will be known whether or not there is copper at the site &, therefore, whether the mine is a success of failure. The mining engineers estimate a 60 percent chance of success and the financial staff has calculated the PV at t =1 of a successful mine to be dollar 1,000 and the PV of a failure at t = 1 to be $0. The financial staff uses a discount rate of 10 percent.
[A] Compute the NPV today using a traditional NPV analysis and also explain would you accept or reject the project?
[A] Suppose the financial staff has estimated that if the project is a failure, the mining equipment could be sold for dollar 400 at t=1. When you include this abandonment option, Calculate the NPV of the project? Would you accept or reject?
[C] Based on your answers to [A] & [B], compute the value of the option to abandon.