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B. Ltd. is considering an R&D project with initial outlay of 20 lac at...

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Finance

B. Ltd. is considering an R&D project with initial outlay of 20 lac at present and a further outlay of 15 lac at the end of first year. The project will generate cash inflow only after two years from now & will depend upon the state of economy: Good (G) & Bad (B). The probability of Good state in 1st year is 75%. The probability of Good state in 2nd year, as well, is 80%. There is only 30% probability of a Good state succeeding a Bad state. The cash inflows at the end of 2nd year will be: CFGG = +200 lac CFBG = +20 lac CFGB = +120 lac CFBB = 100 lac The company has the option of abandoning the project at the end of first year. The scrap value of 9 lac will be realized and no further investment will be required. Evaluate the value of this option if cost of capital is 10 percent. What will be the NPV of this project, if the supplier is charging 1 lac extra for this abandonment facility? How much extra should the company be willing to pay for this facility of abandonment?

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