Global Gas International offers to contract the Halidurton Heavy Construction Corporation to build an oil pipeline from Canada to New Orleans that will provide Halidurton $600 million in income. The probability that the oil pipeline will leak, causing environmental damage is theta. If so, the legal liability will be $1 comma 200 million. If Halidurton is risk neutral and liable for the damages from a leak, what is the theta such that it is indifferent between accepting and rejecting the contract?

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DeniceSandidge DeniceSandidge · Answer 1 · 2019-10-10T07:24:09+02:00

Answer:

probability that make risk neutral accepting project < [tex]\frac{1}{3}[/tex] or 33.33 %

Step-by-step explanation:

given data

income = $600 million

legal liability = $1,200 million

to find out

what is the theta such that it is indifferent between accepting and rejecting the contract

solution

we know here that risk neutral between accept and reject contract θ value will be as that when net present value NPV of contract = 0

so

we can say NPV > 0

so ( 1- θ ) $600 Million + θ ( $1200 Million) > 0

$600 Million > $1800 θ

θ < [tex]\frac{1}{3}[/tex] = 33.33 %

so probability that make risk neutral accepting project < [tex]\frac{1}{3}[/tex] or 33.33 %