Dwight Wrote: ------------------------------------------------------- > I’m with you now Dinesh 
Yea Dwight ! we have a +1 here for sure… CFAI is very cruel and cunning and all they were tesing here is Real Options and +NPV effect on real options… Even a wild fox would be shameful on institutes cunningness… haha They SUCK!
From Schweser: “If the NPV of a project without the option is positive, the analyst knows that the NPV with the option must be even more valuable, and determining the specific value of the option is unnecessary” So does the analyst need to take the sunk cost into consideration in making the decision? No Does the analyst need to take the value of the option into consideration in making the decision? No because the NPV was positive.
You knocked it down Dwight… A well deserved +1 for you and me
An NPV w/ an option q was on a mock somewhere… and it was along the lines of +NPV => no need to calc the value of the option. I don’t see how that translates, if at all, to the ‘adjust project NPV for project delay’ concept. In a capital rationing sense I agree w/ mwvt9, however, from an accept / decline standpoint the mock q explanation claimed that positive + positive is just more positive so you don’t need to value the option to adjust the NPV. If the NPV was negative then you need to value the option to see if it is enough to overcome the negative… Something is in my head about a project to install power windows in cars w/ an option to expand to install in trucks too…
dinesh.sundrani Wrote: ------------------------------------------------------- > You knocked it down Dwight… A well deserved +1 > for you and me Haha not at all. True I think we get +1 but I do not deserve it one bit on this question. What a headache.
slouiscar Wrote: ------------------------------------------------------- > An NPV w/ an option q was on a mock somewhere… > and it was along the lines of +NPV => no need to > calc the value of the option. > > I don’t see how that translates, if at all, to the > ‘adjust project NPV for project delay’ concept. > > In a capital rationing sense I agree w/ mwvt9, > however, from an accept / decline standpoint the > mock q explanation claimed that positive + > positive is just more positive so you don’t need > to value the option to adjust the NPV. If the NPV > was negative then you need to value the option to > see if it is enough to overcome the negative… > > Something is in my head about a project to install > power windows in cars w/ an option to expand to > install in trucks too… I agree with this. If the project were indepedent then the option always adds value and doesn’t need to be condsidered, but if they are rationing then the value of the option needs to be considered. But if the situtation was as I said above and they have already picked this project while rationing due to its pre option NPV then the option will only add value and they would stick with it.
There is also a capital rationing. It does not mean you will take on any projects with positive NPV. I think the question is not asking if NPV is positive. I think they were testing the basic principles here. Schweser page 11. “The timing of cash flow is important.”
dinesh/Dwight - please don’t take this point away from me…
I never even remember reading “option” in the text. All i remember was them saying that if the project was delayed would the delay have to be considered when calculating NPV. If option was in the text then that changes things but I really dont ever recall seeing the word “option.” Maybe i’m wrong…
it doesn’t matter folks and here’s why: if you don’t think your sales forecast can be met (hence the delay for product acceptance), you don’t know that you have a positive NPV to begin with really. therefore, even if its an option—you would have to model it anyways, so its a “YES”
AFJunkie Wrote: ------------------------------------------------------- > Maybe i’m wrong… Yikes I sure hope so. The problem is now not that we don’t understand the concepts but that we don’t remember the exact wording. I see no resolution to that unless anyone has a copy 
ps. i think CFA would have used the term option if that’s what they meant instead of delay. they do not like to be ambiguous.
KRochelli Wrote: ------------------------------------------------------- > they do not like to be ambiguous. What is the entire ethics section all about then? =P They didn’t say it was an option but I 100% believe the way they worded it is was an option to delay the project in hopes of new information. With positive NPV, accept the project regardless of the option.
even if i had a copy, i would have burned it by now out of sheer angst.
Good debate guys, I’m off to the gym but I’ll check back in the morning to see if anything new came up Cheers,
cps44 Wrote: ------------------------------------------------------- > I hate questions like this where someone can fully > understand the concept, but just are not sure what > they are asking (do you want to know whether i > know that the option has value or do you want to > know if i understand that it doesn’t need to be > included since the NPV is already positive?). > Maybe the actual wording on the exam was perfectly > clear and it’s wasn’t an issue for this particular > question, but I do remember having this type of > problem a few times. I’m with you, Bro. However, I’m pretty sure the actual wording on the exam was clearer than this post makes it seem. A real option regarding timing is the following situation: You have a project full-steam ahead, and you can delay things if the economy goes sour, if demand is low, etc. In the question, they said that management might delay this for a year so that they can get more information. This wouldn’t be a mid-project delay, it would be a delay at the initiation of the project. As others have mentioned, just because a project has a positive NPV now, it doesn’t mean it’ll have an NPV if you start it a year from now. How can you not take that into account?
Dwight- what happens if they don’t decide to do the project with the “new information” you never had a positive NPV to begin with.
Spencer Charlson, Executive Vice President for PWK Design, is considering purchasing a new computer system for the firm. Charlson believes that PWK would benefit from purchasing the system now, but also is aware that Macroware, a software developer is coming out with a new operating system that will available in three months. Charlson is unsure whether or not the new operating system would help PWK and decides to wait until the new operating system comes out before making a purchase. The computer system project Charlson is evaluating would be best described as having a(n): A) timing option. B) fundamental option. C) flexibility option. D) expansion option. Explanation: Timing options allow a company to delay an investment with the hope of having better information in the future. Delaying an investment and basing the decision on the better information gained by waiting may improve the NPV of the overall project. >>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>> Michael Fullen is discussing the evaluation of capital budgeting projects with his coworker, Katina Katzenmoyer. During conversation, Katzenmoyer makes the following statements regarding the determination of real option values: Statement 1: For independent projects, an analyst must determine a value for the real option that is separate from the project regardless of the profitability of the project. Statement 2: Abandonment options can be valuable, but should only be exercised when the abandonment value is greater than the discounted present value of the remaining cash flows of the project. Are the statements made by Katzenmoyer correct? Statement 1 Statement 2 A) Incorrect Correct B) Incorrect Incorrect C) Correct Correct D) Correct Incorrect Explanation: Fullen should disagree with Katzenmoyer’s first statement. The value of a real option is always positive. For an independent project, if the project is already profitable, a manager can accept the project simply knowing that the real option will simply add to the profitability without determining a separate value for the option. Fullen should agree with Katzenmoyer’s second statement. An abandonment option should be exercised when the abandonment value for a project is greater than the discounted present value of the remaining cash flows from the project.
i don’t know who thinks what anymore - what are you implying
i don’t think the question asked whether or not you’d reject, it asked whether the 2 options affected the project decision maybe? In your q-bank example, “Timing options allow a company to delay an investment with the hope of having better information in the future. Delaying an investment and basing the decision on the better information gained by waiting may improve the NPV of the overall project.” so does it affect the project decision? sure it does- if it could improve the NPV of the project, well then that means something. the sunk cost is sunk so that doesn’t matter. i’m in the NO/YES camp here and if you take this point from me i’m seriously going to be angry. this was in the sure thing points for me.