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1 – 10 of over 11000
Article
Publication date: 17 May 2011

Jeffrey N. Street and Mukunthan Santhanakrishnan

Decision making for acceptance of an R&D project occurs under uncertainty and may involve predominantly quantitative analyses, such as net‐present value, predominantly intuitive…

Abstract

Purpose

Decision making for acceptance of an R&D project occurs under uncertainty and may involve predominantly quantitative analyses, such as net‐present value, predominantly intuitive analyses, such as real options logic, or some combination thereof. This paper attempts to bring together two concepts of decision theory, i.e. heuristics and framing, and real options logic into one integrated view relative to R&D project valuation. It is believed that the integration of theory helps explain expected and unexpected decisions resulting from the R&D project valuation process.

Design/methodology/approach

It is proposed here that, under a typical R&D project review, aspects of two theoretical concepts integrate to aid project valuation and decision making. The aim of this paper is to develop a research framework leading to advancement in the understanding of the relationship of heuristic principles from decision theory and the valuation methodology of real options logic. Findings – As a conceptual paper, propositions and a research model representing the conceptual framework are presented.

Research limitations/implications

Stemming from the propositions and research model, it is believed that the degree of influence that heuristics potentially exhibit on real options logic can be successfully measured. Confirming the degree of influence is a matter for future empirical research.

Originality/value

The originality of this paper is to develop a research framework leading to advancement in the understanding of the relationship of heuristic principles from decision theory and the valuation methodology of real options logic. In this framework, heuristics has been positioned as a moderator affecting project valuation derived by real options logic.

Details

Journal of Strategy and Management, vol. 4 no. 2
Type: Research Article
ISSN: 1755-425X

Keywords

Article
Publication date: 14 June 2018

Tom W. Miller

The purpose of this paper is to use fundamental models incorporating structural relationships within the firm in a terminal value model for the second stage of a two-stage…

Abstract

Purpose

The purpose of this paper is to use fundamental models incorporating structural relationships within the firm in a terminal value model for the second stage of a two-stage valuation model utilized to estimate the value of a company.

Design/methodology/approach

The innovation is that growth options are identified within the structural relationships and a model capturing the value of the optionality is incorporated in the second stage of the two-stage valuation model.

Findings

Significant outcomes are that terminal value is shown to be a large portion of a company’s total value and the price behavior for initial public offerings produced by the model is consistent with the result of empirical studies.

Originality/value

This paper explicitly incorporates growth options in the second stage of a two-stage valuation model for the firm.

Details

Studies in Economics and Finance, vol. 35 no. 2
Type: Research Article
ISSN: 1086-7376

Keywords

Book part
Publication date: 13 August 2007

Todd M. Alessandri, Diane M. Lander and Richard A. Bettis

Strategy is ultimately aimed at creating shareholder value. We examine the relationship among intrinsic (DCF) value, market value, and the value of growth options using a “perfect…

Abstract

Strategy is ultimately aimed at creating shareholder value. We examine the relationship among intrinsic (DCF) value, market value, and the value of growth options using a “perfect foresight” model. Our findings suggest that Kester's (1984) initial assessment of growth option values may not hold under alternative valuation models. We highlight important issues in the valuation of growth options related to market expectations, modeling assumptions and estimation methods. The findings suggest that the firm's growth option value depends on three factors, each of which impacts investor expectations: (1) the macroeconomic environment; (2) the industry in which the firm participates; and (3) firm specific factors.

Details

Real Options Theory
Type: Book
ISBN: 978-0-7623-1427-0

Article
Publication date: 1 July 2006

Sudi Sudarsanam, Ghulam Sorwar and Bernard Marr

The aim of this paper is to discuss intellectual capital (IC) from a valuation perspective and examine the nature of such capital and why traditional valuation methods fail to…

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Abstract

Purpose

The aim of this paper is to discuss intellectual capital (IC) from a valuation perspective and examine the nature of such capital and why traditional valuation methods fail to reflect the unique characteristics of IC and propose an alternative approach that captures them.

Design/methodology/approach

The paper builds on the existing literature in the fields of financial valuation and IC. The analysis of these fields allows us to combine them and discuss the possible usage and limitations of real option models for the assessment of intellectual capital in firms.

Findings

A valuation perspective is developed based on the real option models that have been extended from their origin in financial asset valuation to the valuation of firms' growth opportunities. Intellectual resources embody these opportunities contributing to both their evolution over time and their realisation in future. A typology of IC is developed based on the influence upon the various valuation parameters of real options. This approach provides a richer framework to analyse the relationship between IC and corporate value.

Practical implications

Clarification of the relationship between IC and managerial flexibility as a source of value will help managers understand how they can create and leverage such flexibility to create value. The paper enables managers to understand how different types of IC impact on risk taking, timing of investment projects and the value of speculative investments.

Originality/value

The paper clarifies the nature of IC in the way it contributes to managerial flexibility to gain competitive advantage and exploit growth opportunities. It extends the real options valuation framework to the valuation of intellectual assets thus providing a link among intellectual assets, business strategy and firm value.

Details

Journal of Intellectual Capital, vol. 7 no. 3
Type: Research Article
ISSN: 1469-1930

Keywords

Article
Publication date: 1 February 2001

Dominik I. Lucius

The interpretation and valuation of real options by means of options pricing theory can be regarded as a relatively new paradigm of investment theory. Option pricing theory based…

6914

Abstract

The interpretation and valuation of real options by means of options pricing theory can be regarded as a relatively new paradigm of investment theory. Option pricing theory based investment valuation represents a sound theoretical basis and offers principally a simple decision base. The approach recognises entrepreneurial flexibility and risk explicitly. It implies a positive correlation between flexibility respectively uncertainty and the value of options. Traditional deterministic‐dynamic standard methods of valuation are not able to value flexibility or risk effectively so that option values are adequately reflected. As property investors gradually embrace modern financial concepts it is clear that real estate valuation theory will have to change. One of the most promising areas that could have an important implication on the further development of valuation is the application of the real options paradigm. The author investigates the transfer of general real options theory through an examination of academic results in the field of real estate development. He comes to the conclusion that current research generates highly academic‐abstract results with limited practical value. So far a limited number of quantitative studies regarding the valuation real estate projects with the real options method have been conducted. Practical valuations have yet to be comprehensively carried out. For doing so, further research concerning the basic prerequisites of real options theory has to be undertaken.

Details

Journal of Property Investment & Finance, vol. 19 no. 1
Type: Research Article
ISSN: 1463-578X

Keywords

Article
Publication date: 7 September 2023

Shaun Shuxun Wang

This paper provides a structural model to value startup companies and determine the optimal level of research and development (R&D) spending by these companies.

1477

Abstract

Purpose

This paper provides a structural model to value startup companies and determine the optimal level of research and development (R&D) spending by these companies.

Design/methodology/approach

This paper describes a new variant of float-the-money options, which can act as a financial instrument for financing R&D expenses for a specific time horizon or development stage, allowing the investor to share in the startup's value appreciation over that duration. Another innovation of this paper is that it develops a structural model for evaluating optimal level of R&D spending over a given time horizon. The paper deploys the Gompertz-Cox model for the R&D project outcomes, which facilitates investigation of how increased level of R&D input can enhance the company's value growth.

Findings

The author first introduces a time-varying drift term into standard Black-Scholes model to account for the varying growth rates of the startup at different stages, and the author interprets venture capital's investment in the startup as a “float-the-money” option. The author then incorporates the probabilities of startup failures at multiple stages into their financial valuation. The author gets a closed-form pricing formula for the contingent option of value appreciation. Finally, the author utilizes Cox proportional hazards model to analyze the optimal level of R&D input that maximizes the return on investment.

Research limitations/implications

The integrated contingent claims model links the change in the financial valuation of startups with the incremental R&D spending. The Gompertz-Cox contingency model for R&D success rate is used to quantify the optimal level of R&D input. This model assumption may be simplistic, but nevertheless illustrative.

Practical implications

Once supplemented with actual transaction data, the model can serve as a reference benchmark valuation of new project deals and previously invested projects seeking exit.

Social implications

The integrated structural model can potentially have much wider applications beyond valuation of startup companies. For instance, in valuing a company's risk management, the level of R&D spending in the model can be replaced by the company's budget for risk management. As another promising application, in evaluating a country's economic growth rate in the face of rising climate risks, the level of R&D spending in this paper can be replaced by a country's investment in addressing climate risks.

Originality/value

This paper is the first to develop an integrated valuation model for startups by combining the real-world R&D project contingencies with risk-neutral valuation of the potential payoffs.

Details

China Finance Review International, vol. 14 no. 1
Type: Research Article
ISSN: 2044-1398

Keywords

Article
Publication date: 8 July 2011

Baabak Ashuri, Jian Lu and Hamed Kashani

This paper aims to present a financial valuation framework based on the real options theory to evaluate investments in toll road projects delivered under the two‐phase development…

2642

Abstract

Purpose

This paper aims to present a financial valuation framework based on the real options theory to evaluate investments in toll road projects delivered under the two‐phase development plan.

Design/methodology/approach

The approach is based on applying the real options theory to evaluate investments in toll road projects. In particular, the risk‐neutral valuation method is used for pricing flexibility embedded in the two‐phase development plan. Risk‐neutral binomial lattice is used to model traffic uncertainty and to find the optimal time for the toll road expansion. Probabilistic life cycle cost and revenue analysis is conducted to characterize the investor's financial risk profile and determine the flexibility value of the expansion option.

Findings

The flexible, two‐phase development plan can improve the investor's financial risk profile in the toll road project through limiting the downside risk of overinvestment (i.e. decreasing the probability of investment loss) and increasing the expected investment value in a highway project.

Social implications

Private and public sectors can benefit from this valuation framework and use tax dollars and users' fees effectively through avoiding overinvestment in toll road projects.

Originality/value

The framework consists of several integrated features, which distinguish it from existing investment valuation models. The risk‐neutral valuation method for pricing flexibility embedded in the two‐phase development plan is applied. This real options framework is capable of characterizing traffic boundary, at which it is optimal for the investor to expand the toll road. Further, this framework provides the likelihood distribution of when the investor may expand the toll road.

Article
Publication date: 22 April 2007

William R. Cron and Randall B. Hayes

Recent developments in accounting for stock options have increased interest in the analytical techniques used to value them. Techniques used to value the options of publicly…

Abstract

Recent developments in accounting for stock options have increased interest in the analytical techniques used to value them. Techniques used to value the options of publicly traded companies have been extensively discussed. In contrast, there has been almost no discussion of the valuation procedures of the options for non‐publicly traded companies. This paper addresses this gap. The paper suggests that a straightforward income capitalization model can be used to develop reasonable surrogates for the variables of the Black‐Scholes option pricing model. The paper also discusses how to adjust the income apitalization model for both lack of marketability and lack of control discounts.

Article
Publication date: 29 July 2014

Jussi Vimpari and Seppo Junnila

The purpose of this study is first to evaluate whether real options analysis (ROA) is suitable for valuing green building certificates, and second to calculate the real option

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Abstract

Purpose

The purpose of this study is first to evaluate whether real options analysis (ROA) is suitable for valuing green building certificates, and second to calculate the real option value of a green certificate in a typical office building setting. Green buildings are demonstrated as one of the most profitable climate mitigation actions. However, no consensus exists among industry professionals about how green buildings and specifically green building certificates should be valued.

Design/methodology/approach

The research design of the study involves a theoretical part and an empirical part. In the theoretical part, option characteristics of green building certificates are identified and a contemporary real option valuation method is proposed for application. In the empirical part, the application is demonstrated in an embedded multiple case study design. Two different building cases (with and without green certificate) with eight independent cash flow valuations by eight industry professionals are used as data set for eight valuation case studies and analyses. Additionally, cross-case analysis is executed for strengthening the analysis.

Findings

The paper finds that green certificates have several characteristics similar to real options and supports the idea of using ROA in valuing a green certificate. The paper also explains how option pricing theory and discounted cash flow (DCF) method deal with uncertainty and what shortcomings of DCF could be overcome by ROA. The results show that a mean real option value of 985,000 (or 8.8 per cent premium to the mean property value) was found for a Leadership in Energy and Environmental Design Platinum certificate in the Finnish property market. The main finding of the paper suggests that the contemporary real option valuation methods are appropriate to assess the monetary value and the uncertainty of a green building certificate.

Originality/value

This is the first study to argue that option-pricing theory can be used for valuing green building certificates. The identification of the option characteristics of green building certificates and demonstration of the ROA in an empirical case makes questions whether the current mainstream investment analysis approaches are the most suitable methods for valuing green building certificates.

Details

Journal of European Real Estate Research, vol. 7 no. 2
Type: Research Article
ISSN: 1753-9269

Keywords

Article
Publication date: 8 May 2009

V. Riihimäki

The purpose of this paper is to analyze the suitability of the real option methods in the valuation of WiMAX networks. Particularly, the shapes of the probability distributions

1422

Abstract

Purpose

The purpose of this paper is to analyze the suitability of the real option methods in the valuation of WiMAX networks. Particularly, the shapes of the probability distributions for the investment costs and net present values (NPV) are examined.

Design/methodology/approach

The study analyzes the costs and NPV distributions by simulating an investment project in a rural area. The paper examines the influences of different uncertainty models and the shapes of the resulting investment costs, NPVs, and NPV ratios. The simulated option values are compared to results from different analytical equations.

Findings

The analysis in this study shows that the shape of the uncertainty – or error – in the parameters does not affect the shapes of the investment costs or NPV distribution. Instead, the subject of the uncertainty – i.e. the parameters for which the uncertainty is modeled – matters.

Practical implications

The study shows that the uncertainties and opportunities in network investments may increase the value of the projects dramatically and thus they should be taken into account. The shape of the NPV distribution varies depending on the technology and construction strategy of the network. This makes the real option valuation challenging since the assumptions of the valuation models must be satisfied for reliable results. Analytical option valuation formulas give the same results as simulation, only if the assumptions are sufficiently fulfilled and the parameters properly estimated.

Originality/value

The uncertainty in the service rate growth or population growth parameter influences the resulting distributions. The investment costs are positively skewed and can be approximated by a log‐normal distribution. This makes NPV negatively skewed, which suits badly in the existing analytical option valuation methods assuming log‐normal assets. Also, the NPV ratio is correlated with the investment costs.

Details

info, vol. 11 no. 3
Type: Research Article
ISSN: 1463-6697

Keywords

1 – 10 of over 11000