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Evaluation of Project Risk in Capital Investments with Abandonment Options

Evaluation of Project Risk in Capital Investments with Abandonment Options

1974Working Paper No. 224

This paper develops a formula for calculating the variance of the present value of cash flows for capital investment projects that have an option to abandon the project in each period. The development of the optimal abandonment strategy can be formulated as a dynamic programming problem. This research uses the same dynamic programming approach to develop the variance formula.