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Dear John
Can you please help with a query that I have in this question.
I am unable to grasp how the Pa of $10.68 has been derived?
This is an Option to Expand.
The initial NPV was negative $1.01
The project investment is $15m and the NPV is $0I thought that Pa is the present value of all expected cash flows (excluding the initial investment)…
The answer solution just shows :
Current price (value of project including the option exercise price)
$15 x 0.712 (presumably the discount factor 12% of 3 year) = $10.68
But I cannot follow this logic.Thank you.
The project requires an investment of $15M in three years time, and so for the NPV to be zero the PV of the returns from the investment must also be $15M in three years time.
We need the PV of the returns ‘now’ (not in three years time) and therefore we need to discount the $15M for three years.
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