A wildcat oil driller has enough capital to invest in only one project,that is,to drill one well in an East Texas oil field.A major oil company is drilling 100 wells in the same field.The probability of successfully striking oil is 10% for any well drilled in this field.Which of the following statements is MOST correct concerning the risk involved in these capital budgeting projects?

Question

Quizplus · Accepted Answer

The best measure of risk for the wildcat oil driller is project standing alone risk, as they only have one project and cannot diversify their risk. The major oil company, on the other hand, can diversify its risk through its other projects, making contribution-to-firm risk the appropriate measure. Systematic risk is not applicable in this case since the risk is specific to the project, rather than the overall market. Choice A is incorrect as the risk level is not the same for both parties - the major oil company has a lower overall risk due to its ability to diversify.

A Wildcat Oil Driller Has Enough Capital to Invest in Only