You have launched a project. Several years later, due to competition in the business, cash flow drops and the present value of future cash flows is $12 million. You have the option to abandon the project, with recovery of $13 million from the sale of the equipment and real estate. You can either abandon the project now or wait for one year to decide. Assume one year standard deviation of the project is 25% and 2% risk-free rate. Do you want to abandon the project now or wait for one year to decide? Show your work to get full credit. Keep four decimals. (a). If you consider the option to abandon the project in one year as a put option, what’s the current value of the underlying asset and what’s the exercise price?
(b). What’s the call option price with the same terms (expiration dates, exercise price, underlying stock) using Black-Scholes model?
(c). What’s the value of the put option using put-call parity?
(d). Do you want to abandon the project now or wait for one year to decide? Why?