a mdel to estimate the value of the option to abandon a project or investment
TRANSCRIPT
Submitted to : Prof. Jasbeer Singh Matharu
Piyush Chandak 2015208
Irinia Ranjan 2015215
Kriti Jain 2015216
Priyanka Mishra 2015229
Anju Prajapati 2015132
Sr. No. Content
1 Documentation
2 Assumptions
3 Model
4 Example of the Model
A model to estimate the value of the option to
abandon a project or investment
Group-10
Submitted to : Prof. Jasbeer Singh Matharu
A model to estimate the value of the option to
abandon a project or investment
1 Project's present value will drop by roughly 1/n each year into the project
2 Riskfree rate is assumed as 7% that is equal to Treasury bond rate
3 Time of abandonment is considered as time of option life
4 Tenue of the project more than 10 years should not be considered
ASSUMPTIONS
VALUING AN OPTION TO ABANDON A PROJECT
Table 1 : Input Data related to Net Present Value of the Project
Initial investment in the project
Expected cash flow each year
Tenure of the project
Discount rate
Table 2: Calculation of Present Value of the Project
Year Cash Flow
0 0
1 0
2 0
3 0
4 0
5 0
6 0
7 0
8 0
9 010 0
PV of investment 0
Table 3: Inputs relating the underlying asset
Present value of cash flows from project 0
Variance in Underlying Assets's Value
Annualized standard deviation in ln(present value of CF) 0.00%
Remaining life of the project
Salvage Value on abandonment
Time to expiration
Enter the riskless rate that corresponds to the option lifetime =
Output relating to long term option
Table 4: VALUING A LONG TERM OPTION
Stock Price 0.00 Treasury Bond Rate
Strike Price 0.00 Variance
Expiration (in years) 0 Annualized dividend yield
d1 =
N(d1) =
d2 =
N(d2) =
Value of Option to Abandon =
VALUING AN OPTION TO ABANDON A PROJECT
in million Rs.
in million Rs.
in years
in million Rs.
in %
in years
in million Rs.
in years
in %
Treasury Bond Rate 0.00%
0
Annualized dividend yield
VALUING AN OPTION TO ABANDON A PROJECT
Table 1 : Input Data related to Net Present Value of the Project
Initial investment in the project 100
Expected cash flow each year 45
Tenure of the project 10
Discount rate 12%
Table 2: Calculation of Present Value of the Project
Year Cash Flow
0 -100
1 45
2 45
3 45
4 45
5 45
6 45
7 45
8 45
9 4510 45
PV of investment 254
Table 3: Inputs relating the underlying asset
Present value of cash flows from project 254
Variance in Underlying Assets's Value 0.09
Annualized standard deviation in ln(present value of CF) 30.00%
Remaining life of the project 10
Salvage Value on abandonment 150.00
Time to expiration 5
Enter the riskless rate that corresponds to the option lifetime = 7.00%
Output relating to long term option
Table 4: VALUING A LONG TERM OPTION
Stock Price 254.26 Treasury Bond Rate
Strike Price 150.00 Variance
Expiration (in years) 5 Annualized dividend yield
d1 = 0.898485228
N(d1) = 0.815536542
d2 = 0.227664835
N(d2) = 0.590046594
Considering that a company XYZ Ltd. is considering a 10-years project which requires an initial investment of Rs. 100 million in a real estate firm. The expected cash flow from
the project from the project is Rs. 45 million. The company has the option to abandon this project anytime by selling its share back to the developer in the next 5 years for Rs.
150 million. A simulation of the cash flows on the time share investment yields a variance in the present value of the cash flows from being in the partnership is 0.09. The
discount rate is 12%.
Value of Option to Abandon = $14.89
VALUING AN OPTION TO ABANDON A PROJECT
in million Rs.
in million Rs.
in years
in million Rs.
in %
in years
in million Rs.
in years
in %
Treasury Bond Rate 7.00%
0.09
Annualized dividend yield 10.00%
Considering that a company XYZ Ltd. is considering a 10-years project which requires an initial investment of Rs. 100 million in a real estate firm. The expected cash flow from
the project from the project is Rs. 45 million. The company has the option to abandon this project anytime by selling its share back to the developer in the next 5 years for Rs.
150 million. A simulation of the cash flows on the time share investment yields a variance in the present value of the cash flows from being in the partnership is 0.09. The
discount rate is 12%.