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Corporate Finance 1 (Subject) / 9 Managerial Flexibility and Project Valuation Real Options (Lesson)
- A project that can adjust easily and at low cost to significant changes such as: Selling price Risk Technology Economic, regulatory, and tax environments
- Options: DEF rights without obligations, i.e. option analysis captures flexibility.
- Financial options: Real options: Financial options in corporate finance: Corporate bonds. Executive stock options. Real options: Investment analysis when flexibility is an issue. Valuation of a startup company.
- When valuing complex projects, DCF analysis is likely to fail. Why? Several sequential decisions (i.e. flexibility). may miss contingencies (Spezialfälle) risk of each decision may vary significantly --> very difficult to make the necessary adjustments
- Factors Influencing the Value of an Option Current (spot) price Strike price. Time to expiration. Expected volatility risk-free rate
- Valuing real options is much more difficult than valuing stock options. Why? Hard to estimate distribution of returns. Real options are based on assets that are not actively traded. Exercise choices are much more complicated for real options .
- Mistakes Made in Real Options Valuation Trying to fit the problem into the Black-Scholes model Using wrong volatility Overestimating the value of flexibility
- Advantages of Option Pricing Models allow us to value assets that we otherwise would not be able to value provide fresh insights into the drivers of value
- Disadvantages of Option Pricing Models Inputs are difficult to obtain (erhalten) an approach to another valuation approach. Danger of double counting assets (Patents as options and add them on to his discounted cash flow value)
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