A project runs for two years and has a present value of $100 million today and an annual volatility of 20%. Assume that the simple annual risk-free rate is 5%.
If the project costs $102 million, should you do the project based on the NPV analysis?
Consider a two-step binomial tree for the PV of the project for the next two years. If the project can be sold/abandoned for a resale value of $95 million in year 2, what is the value of the project?
Now, if the project can be sold at any time (in both year 1 and year 2) for the same price of $95 million, will the value of the project change from the answer in part 2? If so, what is the value of the project now?
Now, if the volatility of the project goes down, will the answer in part 2 go up or down?
Now, if the interest rate is higher than 5%, will the answer in part 2 go up or down?