A firm has a three-year real option to invest in a project that has a present value of $500 million with an exercise price (in year 3) of $800 million.Calculate the value of the option given that N(d1) = 0.3 and N(d2) = 0.15.Assume that the risk-free interest rate is 6 percent per year.
A)$30 million
B)$49.25 million
C)zero
D)$7.08 million

Question

Quizplus · Accepted Answer

The value of the real option is equal to the difference between the project's present value and the exercise price, discounted to today at the risk-free interest rate. 
Thus, the value of the real option is:

($500 million - $800 million / (1 + 0.06)^3) * (N(d2) - N(d1))
= ($500 million - $623.57 million) * (0.15 - 0.3)
= $49.25 million.

Therefore, the best choice is B.

A Firm Has a Three-Year Real Option to Invest in a Project