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It really sounds like a mistaken black-listing, if the ranking has dropped "all together".   It could be based on content, but if your bounce rate is dropping, your content is better, and if there was a mistake made, I think some bad back-links are more likely.

If this occurred at the end of February, it would predate PENGUIN, but black-listings do occur between updates.   One idea for resolving it would be to check some of the lower domain-authority backlinks, go to their site, and then from there, check other sites they are linking to, and see if those sites have also suffered.   Once you target the location of the bad-links, you can start your clean up from there.

I wouldn't do choice (a) because that isn't a natural redirect.   With these sort of decisions, I always look at what's realistically occuring because ranking algorithms will eventually get smart enough, if they are not already there.  The fact is that the client's depricated website isn't, in reality, being replaced by your entire directory.

Unique domain-based back-links are important for SEO, so I would definitely keep the site up if there isn't a lot of cost associated with it.   I think option (c) would be better.  Given various options, a key word anchor to your base domain is hard to beat.