Caravan Gaming Company is interested in developing a new facility in Brazil. The company estimates that the project would require an initial investment of $31 million. The company expects that the project will produce positive cash flows of $5,050,000 a year at the end of each of the next 15 years. The project's cost of capital is 14%.
a. find out the expected net present value of the project.
b. The company recognizes that the cash flows may be much higher or lower, depending on whether the host government imposes a large facility tax. One year from now, the company will know whether the tax will be imposed. There is a 45 percent chance that the tax will the imposed, in which case the yearly cash flows will be only $4.5 million and there is a 55 percent chance that the tax will not be imposed, in which case the yearly cash flows will be $5.5 million. If the company waits a year to start the project, the initial investment will remain at $31 million, and incoming cashflows will be delayed one year. Using decision tree analysis, find out the value of the real option to wait a year before deciding. Use a discount rate of 14 percent.
c. Discuss 2-3 other factors that the company should consider in making a decision to go ahead with the project now or wait for one year.