The risk that arises in project financing, reflecting the possible repercussions from an early exit or abandonment of a project, rendering the interests of the project manager and the other stakeholders (e.g., financiers) divergent.

In risk assessment, calculating the abandonment option that gives rise to abandonment risk is a key tool in mitigating risks. The abandonment option refers to the ability of a firm or investor to walk away from a project for a certain reason such as underperformance or nonperformance of expected results or outcomes.

This option can protect a firm or investor against unforeseen losses and can be perceived as a form of insurance. It constitutes the right to cease or discontinue an project if it becomes unprofitable. This option is instrumental to firms as it protects them from incurring more losses if a project or investment is not performing as per the set plans. For instance, if a firm invests in a new product line, and the sales do not meet the set targets, the firm can exercise an abandonment option to walk away from the project and avoid further losses.

The risks associated with an abandonment option may relate to the timing of the decision to abandon the underperforming or nonperforming project. If a firm decides to abandon a project too early, it may end up discontinuing a project that could have performed better over the long term. In the opposite scenario, if a firm does not exercise the abandonment option at an early stage, it may incur more substantial losses.