# solution

solution.

1. You are given the following information on a project with a 5-year life that requires an initial investment of \$500,000. If things go well (with probability 0.60) the project will generate \$200,000 for each of the years 1-5. If not, (with probability 0.40) the cash flows will be -\$20,000 per year for each of the years 1-5.

Assume that the projectĂ˘â‚¬â„˘s beta is 0.75, the expected Market return is 12.0%, and the risk-free rate is 4.0%. Further, the firm plans to finance the project with \$300,000 of equity and \$200,000 in debt. The YTM on the companyĂ˘â‚¬â„˘s bonds is 6.0% and its marginal tax rate is 25%. [Use Discrete compounding throughout].

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1. Using relevant information compute the projectĂ˘â‚¬â„˘s WACC.
2. Compute the projectĂ˘â‚¬â„˘s NPV without any Real Option to Abandon.
3. Compute the projectĂ˘â‚¬â„˘s IRR without any Real Option to Abandon.
4. Now assume, the firm has the option to abandon the project after 2 years. What is the value of this option to abandon? Compute the projectĂ˘â‚¬â„˘s NPV with the Real Option to Abandon.
5. Compute the projectĂ˘â‚¬â„˘s IRR with the Real Option to Abandon.

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