DAM DECISION PROJECT

INSTRUCTIONS: Self-select a team of three or four colleagues participate in this exercise.

The government is contemplating the construction of another dam on the Columbia River. The corps of engineers to help in the decision process has retained you and your team. Analyze the information presented below (and any additional information that you might bring to this process) and make a recommendation to build or not to build the dam. The decision is, of course, a function of expected marginal costs and expected marginal benefits. Remember that you must convert all costs and benefits to a current value today. (I suggest that you use timelines to layout cash flows and lump sum payments.)

The corps of engineers has estimated that the proposed dam would create the following benefits:

• Electric power generation revenue - $15 million per year. Hint: when will the power generation begin?
• Irrigation revenue - $2 million per year
• Flood prevention - $25 million every 10 years

ESTIMATED COSTS OF CONSTRUCTION INCLUDE:

• Land purchase - $5 million
• Construction costs - $10 million per year for 5 years

ESTIMATED OTHER COSTS:

• Lost apple crop revenue - $2 million per year
• Diminished salmon flows - $6 million per year
• Loss of one worker's life* - estimated value? (You must estimate a reasonable value.)

Examination of the market suggests a 9% discount rate is appropriate. It is estimated that the benefits of the dam will exist for 25 years after completion that is through year 30.

* It is estimated with a probability of .65 that a worker will be killed during the construction of the dam. Question: What is the timing of the death? (Note: This question involves the application of expected value analysis.)