Additional Praise for the First Edition of Real Options Analysis

“Many books on real options can be intimidating. Mun offers a pragmatic, reliable, and entertaining guide. Complex concepts and formulas are brilliantly interspersed with well-chosen examples and step-by-step walk-throughs from a variety of industries.”

—Shota Hattori

President and CEO, Kozo Keikaku Engineering, Inc. (Japan)

“Finally, a real options analysis book that is technically sophisticated enough to be useful, and practically written so that it can actually be used. It is destined to become the handbook of real options.”

—A. Tracy Gomes

President, Intellectual Property Economics, LLC (USA)

“The clarity and comprehensive coverage makes it one of the best guides for all practitioners . . . coupled with state-of-the-art financial tools on CD-ROM.”

—Michael Sim

Partner, Moores Rowland International (Hong Kong)

“Mun certainly has earned the reputation of being an expert on the subject . . . consultants, analysts, decision makers, and engineers will be all over this book and its software.”

—Phyllis Koessler

Managing Director, Koessler and Associates (Switzerland)

“The book is far and away the clearest, most comprehensive guide to real options analysis to date, and is destined to be a classic—it is a complete guide to the practical application of real options analysis. It strikes a superb balance between solid intuition, rigorous analysis, and numerous practical examples.”

—John Hogan, Ph.D.

Boston College (USA)

“The book leads the field in real options analytics and is a must-read for anyone interested in performing such analyses. Mun has made a formidable subject crystal clear and exponentially easy for senior management to understand. Monte Carlo simulation and real options software alone is worth the book price many times over.”

—Morton Glantz, Renowned educator in finance, author of several books, financial advisor to government (USA)

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For a list of available titles, visit our Web site at www.WileyFinance.com.

Copyright © 2006 by Johnathan Mun. All rights reserved.

Published by John Wiley & Sons, Inc., Hoboken, New Jersey.

Published simultaneously in Canada.

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Library of Congress Cataloging-in-Publication Data:

Mun, Johnathan.

Real options analysis : tools and techniques for valuing strategic investments and decisions / Johnathan Mun.—2nd ed.

p. cm.—(Wiley finance series)

Includes index.

ISBN-13: 978-0-471-74748-2 (cloth/cd-rom)

ISBN-10: 0-471-74748-3 (cloth/cd-rom)

1. Real options (Finance) I. Title. II. Series.

HG6042 .M86 2006

332.63—dc22

2005050194

Specially dedicated to my wife, Penny, the love and sunshine of my life, for these amazing first few years, and with great anticipation of many more to come. Without your encouragement, advice, and support, this second edition would never have taken off.

“If you will walk in my ways and keep my requirements, then you will govern my house and have charge of my courts, and I will give you a place among these standing here.”

Zechariah 3:7 (NIV)

About the Author

Dr. Johnathan C. Mun is the founder and CEO of Real Options Valuation, Inc., a consulting, training, and software development firm specializing in real options, employee stock options, financial valuation, simulation, forecasting, and risk analysis, located in northern California. He is the creator of the Super Lattice Solver software, Risk Simulator software, and Employee Stock Options Valuation software at the firm. The Super Lattice Solver software showcased in this book supersedes the previous Real Options Analysis Toolkit software that he also developed. He has also authored numerous other books including Real Options Analysis Course: Business Cases (Wiley 2003), Applied Risk Analysis: Moving Beyond Uncertainty (Wiley 2003), Valuing Employee Stock Options (Wiley 2004), and Modeling Risk: Monte Carlo Simulation, Real Options Analysis, Forecasting, and Optimization (Wiley 2006). His books and software are being used around the world at top universities (including the Bern Institute in Germany, Chung-Ang University in South Korea, Georgetown University, ITESM in Mexico, Massachusetts Institute of Technology, New York University, Stockholm University in Sweden, University of the Andes in Chile, University of Chile, University of Pennsylvania Wharton School, University of York in the United Kingdom, and Edinburgh University in Scotland, among others).

Dr. Mun is also currently a finance and economics professor and has taught courses in financial management, investments, real options, economics, and statistics at the undergraduate and the graduate MBA levels. He is currently teaching and has taught at universities all over the world, from the University of Applied Sciences (Switzerland and Germany) and U.S. Naval Postgraduate School to Golden Gate University (California) and St. Mary’s College (California), and has chaired many graduate research thesis committees. He was formerly the vice president of analytics at Decisioneering, Inc., where he headed up the development of real options and financial analytics software products, analytical consulting, training, and technical support, and where he was the creator of the Real Options Analysis Toolkit software, the older predecessor of the Super Lattice Software discussed in this book. Prior to joining Decisioneering, he was a consulting manager and financial economist in the Valuation Services and Global Financial Services practice of KPMG Consulting and a manager with the Economic Consulting Services practice at KPMG LLP. He has extensive experience in econometric modeling, financial analysis, real options, economic analysis, and statistics. During his tenure at Real Options Valuation, Inc., Decisioneering, and at KPMG Consulting, he had consulted on real options, risk analysis, financial forecasting, project management, and financial valuation for many multinational firms (current and former clients include 3M, Airbus, Boeing, BP, Chevron Texaco, Financial Accounting Standards Board, Fujitsu, GE, Microsoft, Motorola, U.S. Department of Defense, U.S. Navy, Veritas, and many others). His experience prior to joining KPMG included being department head of financial planning and analysis at Viking Inc. of FedEx, performing financial forecasting, economic analysis, and market research. Prior to that, he had also performed some financial planning and freelance financial consulting work.

Dr. Mun received his Ph.D. in finance and economics from Lehigh University, where his research and academic interests were in the areas of Investment Finance, Econometric Modeling, Financial Options, Corporate Finance, and Microeconomic Theory. He also has an M.B.A. in business administration, an M.S. in management science, and a B.S. in biology and physics. He is Certified in Financial Risk Management (FRM), Certified in Financial Consulting (CFC), and is Certified in Risk Analysis (CRA). He is a member of the American Mensa, Phi Beta Kappa Honor Society, and Golden Key Honor Society as well as several other professional organizations, including the Eastern and Southern Finance Associations, American Economic Association, and Global Association of Risk Professionals. Finally, he has written many academic articles published in the Journal of the Advances in Quantitative Accounting and Finance, the Global Finance Journal, the International Financial Review, the Journal of Financial Analysis, the Journal of Applied Financial Economics, the Journal of International Financial Markets, Institutions and Money, the Financial Engineering News, and the Journal of the Society of Petroleum Engineers.

Preface

Real Options Analysis, Second Edition, provides a novel view of evaluating capital investment strategies by taking into consideration the strategic decision-making process. The book provides a qualitative and quantitative description of real options, the methods used in solving real options, why and when they are used, and the applicability of these methods in decision making. In addition, multiple business cases and real-life applications are discussed. This includes presenting and framing the real options problems, as well as introducing a stepwise quantitative process developed by the author for solving these problems using the different methodologies inherent in real options. Included are technical presentations of models and approaches used as well as their theoretical and mathematical justifications.

The book is divided into three parts: the qualitative discussions of real options; the quantitative analysis and mathematical concepts; and practical software and business case applications. The first part looks at the qualitative nature of real options, providing actual qualitative business cases and scenarios of real options in the industry, as well as high-level explanations of how real options provide the much-needed insights in decision making. The second part of the book looks at the step-by-step quantitative analysis, complete with worked-out examples and mathematical formulae. The third part illustrates the use of the Real Options Valuation’s Super Lattice Solver software and Risk Simulator software, both developed by the author and included in the enclosed CD-ROM (standard 30-day trial with extended academic license). In this section, more detailed quantitative business cases are solved using the software.

This second edition provides many updates including:

A trial version and introduction to the Super Lattice Solver software that supersedes the author’s older Real Options Analysis Toolkit software (all bugs and computational errors have been fixed and verified).

A trial version and introduction to the Risk Simulator software for running Monte Carlo simulation, forecasting, and optimization also created by the author.

Extended examples and step-by-step computations of American, Bermudan, European, and customized options (including abandon, barrier, chooser, contraction, expansion, and other options).

More extensive coverage of advanced and exotic real and financial options (multiple-phased sequential compound options, complex sequential compound options, barrier options, trinomial mean-reverting options, quadranomial jump-diffusion options, pentanomial dual-asset rainbow options, multiple-asset with multiple-phased options, engineering your own exotic options, and so forth).

Extended real options cases with step-by-step worked-out solutions using the Super Lattice Solver software.

Several brand new case studies on applying real options in the industry (manufacturing, pharmaceutical, biotechnology, real estate, Department of Defense, and others).

An extended discussion on volatility estimates, risk, and uncertainty.

This book is targeted at both the uninitiated professional as well as those well-versed in real options applications. It is also applicable for use as a second-year M.B.A. level textbook or introductory Ph.D. reference book.

Johnathan Mun, Ph.D.

JohnathanMun@cs.com

San Francisco, California

September 2005

Acknowledgments

A special thank you to the business case contributors including Kenneth English, William Bailey, Tracy Gomes, Jim Schreckengast, Marty Nevshemal, and Mark Akason for the original cases, and Robert Fourt, Uriel Kusiatin, Sarah Nelson, and Tom Housel for the new real options cases. Finally, a special thanks to Penny Mun and Penny Bragg for their valuable two cents during the final editing stages.

List of Figures

Chapter 2 Traditional Valuation Approaches

Figure 2.1 Applying Discounted Cash Flow Analysis

Figure 2.2 Shortcomings of Discounted Cash Flow Analysis

Figure 2.3 Using the Appropriate Analysis

Figure 2.4 An Analytical Perspective

Appendix 2A Financial Statement Analysis

Figure 2A.1 Full-Year versus Mid-Year Discounting

Figure 2A.2 End-of-Period versus Beginning-of-Period Discounting

Chapter 3 Real Options Analysis

Figure 3.1 Why Optionality Is Important

Figure 3.2 If We Wait until Uncertainty Becomes Resolved

Figure 3.3 Realistic Payoff Schedule

Figure 3.4 Discounted Cash Flow Model

Figure 3.5 Tornado Diagram and Scenario Analysis

Figure 3.6 Simulation

Figure 3.7 Real Options Analysis (Active versus Passive Strategies)

Figure 3.8 Analysis Observations

Figure 3.9 Analysis Conclusions

Chapter 4 The Real Options Process

Figure 4.1 Real Options Process

Chapter 5 Real Options, Financial Options, Monte Carlo Simulation, and Optimization

Figure 5.1 Financial Options versus Real Options

Figure 5.2 Option Payoff Charts

Figure 5.3 The Few Most Basic Distributions

Figure 5.4 The Flaw of Averages

Figure 5.5 The Need for Simulation

Figure 5.6 Simulation in Excel

Figure 5.7 Monte Carlo Simulation

Figure 5.8 Lognormal Simulation

Chapter 6 Behind the Scenes

Figure 6.1 Three Time-Steps (Recombining Lattice)

Figure 6.2 Two Time-Steps (Nonrecombining Lattice)

Figure 6.3 Binomial Lattice of the Underlying Asset Value

Figure 6.4 Straight-Line Discounted Cash Flow

Figure 6.5 Discounted Cash Flow with Simulation

Figure 6.6 The Face of Uncertainty

Figure 6.7 The Real Options Intuition

Figure 6.8 The Cone of Uncertainty

Figure 6.9 Discrete Simulation Using Binomial Lattices

Figure 6.10 Volatility and Binomial Lattices

Figure 6.11 European Option Example

Figure 6.12 European Option Underlying Asset Lattice

Figure 6.13 European Option Valuation Lattice

Figure 6.14 More Time-Steps, Higher Accuracy

Figure 6.15 More Steps, More Granularity, More Accuracy

Figure 6.16 The Lattice Equations

Figure 6.17 Up and Down Lattice Equations

Figure 6.18 Risk-Neutral Probability Equation

Figure 6.19 A Risk-Neutral World

Figure 6.20 Solving a DCF Model with a Binomial Lattice

Figure 6.21 Real Options and Net Present Value

Chapter 7 Real Options Models

Figure 7.1 Abandonment Option (Underlying Asset Lattice)

Figure 7.2 Abandonment Option (Valuation Lattice)

Figure 7.3 Expansion Option (Underlying Asset Lattice)

Figure 7.4 Expansion Option (Valuation Lattice)

Figure 7.5 Contraction Option (Underlying Asset Lattice)

Figure 7.6 Contraction Option (Valuation Lattice)

Figure 7.7 Option to Choose (Underlying Asset Lattice)

Figure 7.8 Option to Choose (Valuation Lattice)

Figure 7.9 Simultaneous Compound Option (Underlying Asset Lattice)

Figure 7.10 Simultaneous Compound Option (Intermediate Equity Lattice)

Figure 7.11 Simultaneous Compound Option (Valuation Lattice)

Figure 7.12 Changing Strike Option (Underlying Asset Lattice)

Figure 7.13 Changing Strike Option (Valuation Lattice)

Figure 7.14 Changing Volatility Option (Underlying Asset Lattice)

Figure 7.15 Changing Volatility Option (Valuation Lattice)

Figure 7.16 Sequential Compound Option (Underlying Asset Lattice)

Figure 7.17 Sequential Compound Option (Equity Lattice)

Figure 7.18 Sequential Compound Option (Valuation Lattice)

Figure 7.19 Sequential Compound Option (Combined Lattice)

Figure 7.20 Extension to the Binomial Models

Appendix 7A Volatility Estimates

Figure 7A.1 Computing Microsoft’s One-Year Annualized Volatility

Figure 7A.2 Logarithmic Present Value Approach

Figure 7A.3 Sample GARCH Results

Figure 7A.4 Volatility

Figure 7A.5 Standard Deviation

Figure 7A.6 Going from Probability to Volatility

Figure 7A.7 Excel Probability to Volatility Model

Figure 7A.8 Excel Volatility to Probability Model

Figure 7A.9 Probability Distribution of Microsoft’s Stock Prices (since 1986)

Figure 7A.10 Probability Distribution of Microsoft’s Log Relative Returns

Appendix 7C Binomial Path-Dependent and Market-Replicating Portfolios

Figure 7C.1 Underlying Asset Lattice in Risk-Neutral Probability Approach

Figure 7C.2 Valuation Lattice in Risk-Neutral Probability Approach

Figure 7C.3 New Naming Convention in the Market-Replicating Approach

Appendix 7D Single-State Static Binomial Example

Figure 7D.1 Cost Structure

Appendix 7G Applying Monte Carlo Simulation to Solve Real Options

Figure 7G.1 Path-Dependent Simulation Approach to Solving Real Options

Figure 7G.2 Path-Dependent Simulation Forecasting Results

Figure 7G.3 Simulating Options Ranges

Figure 7G.4 Simulating Options Ranges Forecast Results

Appendix 7H Trinomial Lattices

Figure 7H.1 Trinomial Lattice

Appendix 7I Nonrecombining Lattices

Figure 7I.1 Nonrecombining Underlying Asset Lattice

Figure 7I.2 Nonrecombining Valuation Lattice

Figure 7I.3 Recombining Underlying Asset Lattice

Figure 7I.4 Recombining Valuation Lattice

Figure 7I.5 Frequency of Occurrence in a Recombining Lattice

Figure 7I.6 Probability Distribution of the End Nodes on a Recombining Lattice

Figure 7I.7 Nonrecombining Underlying Asset Lattice for a Changing Volatility Option

Figure 7I.8 Nonrecombining Valuation Lattice for a Changing Volatility Option

Figure 7I.9 Solving the Underlying Asset Lattice Using Multiple Recombining Lattices

Figure 7I.10 Solving the Valuation Lattice Using Multiple Recombining Lattices

Figure 7I.11 Pascal’s Triangle

Chapter 8 Additional Issues in Real Options

Figure 8.1 Project Selection and Prioritization

Figure 8.2 Decision Tree Analysis

Figure 8.3 Exit Option with a Barrier

Figure 8.4 Multiple-Phased Complex Compound Option

Figure 8.5 Timing Option

Figure 8.6 Stochastic Optimization

Appendix 8B Differential Equations for a Deterministic Case

Figure 8B.1 Linear Programming

Chapter 9 Introduction to the Real Options Valuation’s Super Lattice Software and Risk Simulator Software

Figure 9.1 Single Super Lattice Solver (SSLS)

Figure 9.2 SSLS Results of a Simple European and American Call Option

Figure 9.3 SSLS Comparing Results with Benchmarks

Figure 9.4 Custom Equation Inputs

Figure 9.5 SSLS-Generated Audit Worksheet

Figure 9.6 SSLS Results with a 10-Step Lattice

Figure 9.7 Multiple Super Lattice Solver

Figure 9.8 MSLS Solution to a Simple Two-Phased Sequential Compound Option

Figure 9.9 Strategy Tree for Two-Phased Sequential Compound Option

Figure 9.10 Multinomial Lattice Solver

Figure 9.11 A Simple Call and Put Using Trinomial Lattices

Figure 9.12 Customized Abandonment Option Using SSLS

Figure 9.13 Customized Abandonment Option Using SLS Excel Solution

Figure 9.14 Complex Sequential Compound Option Using SLS Excel Solver

Figure 9.15 Changing Volatility and Risk-Free Rate Option

Figure 9.16 Excel’s Equation Wizard

Figure 9.17 Using SLS Functions in Excel

Figure 9.18 Lattice Maker

Figure 9.19 New Simulation Profile

Figure 9.20 Setting an Input Assumption

Figure 9.21 Assumption Properties

Figure 9.22 Set Output Forecast

Figure 9.23 Run Preferences

Figure 9.24 Risk Simulator Icon Toolbar

Figure 9.25 Risk Simulator Menu

Figure 9.26 Forecast Chart

Figure 9.27 Forecast Statistics

Figure 9.28 Forecast Chart Preferences

Figure 9.29 Forecast Chart

Figure 9.30 Forecast Chart

Figure 9.31 First Moment

Figure 9.32 Second Moment

Figure 9.33 Stock Price Fluctuations

Figure 9.34 Third Moment (Left Skew)

Figure 9.35 Third Moment (Right Skew)

Figure 9.36 Fourth Moment

Figure 9.37 Forecasting Methods

Figure 9.38 The Forecasting Methods in Risk Simulator

Figure 9.39 The Eight Most Common Time-Series Methods

Figure 9.40 Example Holt-Winters’ Forecast Report

Figure 9.41 ARIMA Report

Figure 9.42 Bivariate Regression

Figure 9.43 Multivariate Regression Results

Figure 9.44 Stochastic Process Forecast Results

Figure 9.45 Optimization Tool in Risk Simulator (Decision Variables)

Figure 9.46 Optimization Tool in Risk Simulator (Constraints)

Figure 9.47 Optimization Tool in Risk Simulator (Objective Function)

Figure 9.48 Optimization Tool in Risk Simulator (Run Preferences)

Appendix 9B Probability Distributions for Monte Carlo Simulation

Figure 9B.1 Frequency Histogram I

Figure 9B.2 Frequency Histogram II

Appendix 9D Optimization

Figure 9D.1 Deterministic Optimization Model

Figure 9D.2 Optimization with Uncertainty Model

Chapter 10 Real Options Valuation Application Cases

Figure 10.1 Simple American Abandonment Option

Figure 10.2 Audit Sheet for the Abandonment Option

Figure 10.3 American Abandonment Option with 100-Step Lattice

Figure 10.4 European Abandonment Option with 100-Step lattice

Figure 10.5 Bermudan Abandonment Option with 100-Step Lattice

Figure 10.6 Customized Abandonment Option

Figure 10.7 Simple American and European Options to Contract with a 10-Step Lattice

Figure 10.8 American and European Options to Contract with a 100-Step Lattice

Figure 10.9 A Bermudan Option to Contract with Blackout Vesting Periods

Figure 10.10 A Customized Option to Contract with Changing Savings

Figure 10.11 American and European Options to Expand with a 100-Step Lattice

Figure 10.12 American and European Options to Expand with a Dividend Rate

Figure 10.13 Dividend Rate Optimal Trigger Value

Figure 10.14 Bermudan Expansion Option

Figure 10.15 Customized Expansion Option

Figure 10.16 American, European, and Custom Options to Expand, Contract, and Abandon

Figure 10.17 Bermudan Option to Expand, Contract, and Abandon

Figure 10.18 Custom Options with Mixed Expand, Contract, and Abandon Capabilities

Figure 10.19 Custom Options with Mixed Expand, Contract, and Abandon Capabilities with Changing Input Parameters

Figure 10.20 Simple American, Bermudan, and European Options without Dividends

Figure 10.21 Simple American, Bermudan, and European Options with Dividends

Figure 10.22 American and European Put Options

Figure 10.23 American and European Exotic Chooser Option Using SLS

Figure 10.24 Complex European Exotic Chooser Option Using MSLS

Figure 10.25 Complex American Exotic Chooser Option Using MSLS

Figure 10.26 Graphical Representation of a Two-Phased Sequential Compound Option

Figure 10.27 Solving a Two-Phased Sequential Compound Option Using MSLS

Figure 10.28 Graphical Representation of a Multiphased Sequential Compound Option

Figure 10.29 Solving a Multiphased Sequential Compound Option Using MSLS

Figure 10.30 Graphical Representation of a Complex Multiphased Sequential Compound Option

Figure 10.31 Solving a Complex Multiphased Sequential Compound Option Using MSLS

Figure 10.32 Solving a Simultaneous Compound Option Using MSLS

Figure 10.33 Solving a Multiple Investment Simultaneous Compound Option Using MSLS

Figure 10.34 Simple Trinomial Lattice Solution

Figure 10.35 Ten-Step Binomial Lattice Comparison Result

Figure 10.36 Mean-Reversion in Action

Figure 10.37 Comparing Mean-Reverting Calls and Puts to Regular Calls and Puts

Figure 10.38 Jump-Diffusion Process

Figure 10.39 Quadranomial Lattice

Figure 10.40 Quadranomial Lattice Results on Jump-Diffusion Options

Figure 10.41 Two Binomial Lattices (Asset Prices and Quantity)

Figure 10.42 Pentanomial Lattice (Combining Two Binomial Lattices)

Figure 10.43 Pentanomial Lattice Solving a Dual-Asset Rainbow Option

Figure 10.44 Down-and-In Lower American Barrier Option

Figure 10.45 Down-and-Out Lower American Barrier Option

Figure 10.46 Up-and-In Upper American Barrier Option

Figure 10.47 Up-and-Out Upper American Barrier Option

Figure 10.48 Up-and-In, Down-and-In Double Barrier Option

Figure 10.49 SLS Results of a Vesting Call Option

Figure 10.50 ESO Valuation Toolkit Results of a Vesting Call Option

Figure 10.51 SLS Results of a Call Option Accounting for Suboptimal Behavior

Figure 10.52 ESO Toolkit Results of a Call Option with Suboptimal Behavior

Figure 10.53 SLS Results of a Call Option Accounting for Vesting and Suboptimal Behavior

Figure 10.54 ESO Toolkit Results of a Call Option Accounting for Vesting and Suboptimal Behavior

Figure 10.55 SLS Results of a Call Option Accounting for Vesting, Forfeiture, Suboptimal Behavior, and Blackout Periods

Figure 10.56 ESO Toolkit Results after Accounting for Vesting, Forfeiture, Suboptimal Behavior, and Blackout Periods

Chapter 11 Real Options Case Studies

Figure 11.1 Strategy Tree for High-Tech Manufacturing 461

Figure 11.2 Value of Strategy A 463

Figure 11.3 Strategy A’s Break-Even Point 464

Figure 11.4 Value of Strategy B 465

Figure 11.5 Strategy B without Contraction 465

Figure 11.6 Value of Strategy C 467

Figure 11.7 Warrant Valuation at Grant Date 471

Figure 11.8 Protective Put at Grant Date

Figure 11.9 Combined Warrant with Protective Put at Grant Date 473

Figure 11.10 Strategy Tree for Pharmaceutical Development 474

Figure 11.11 Value of Strategy A 475

Figure 11.12 Sequential Compound Option’s Break-Even Point 476

Figure 11.13 Strategy Tree for Oil and Gas 477

Figure 11.14 Value of Strategy A

Figure 11.15 Value of Strategy B

Figure 11.16 Tornado Chart Listing the Critical Input Factors of a Customized Binomial Model

Figure 11.17 Tornado Chart Listing the Critical Input Factors of the BSM

Figure 11.18 Spider Chart Showing the Nonlinear Effects of Input Factors in the Binomial Model

Figure 11.19 Dynamic Sensitivity with Simultaneously Changing Input Factors in the Binomial Model

Figure 11.20 Impact of Suboptimal Exercise Behavior and Vesting on Option Value in the Binomial Model

Figure 11.21 Impact of Suboptimal Exercise Behavior and Stock Price on Option Value in the Binomial Model

Figure 11.22 Impact of Suboptimal Exercise Behavior and Volatility on Option Value in the Binomial Model

Figure 11.23 Impact of Forfeiture Rates and Vesting on Option Value in the Binomial Model

Figure 11.24 Options Valuations Result at $0.01 Precision with 99.9 Percent Confidence

Figure 11.25 Stock Price Forecast Using Stochastic Path Dependent Simulation Techniques

Figure 11.26 Results of Stock Price Forecast Using Monte Carlo Simulation

Figure 11.27 Generalized Autoregressive Conditional Heteroskedasticity for Forecasting Volatility

Figure 11.28 Estimating Suboptimal Exercise Behavior Multiples

Figure 11.29 Estimating Suboptimal Exercise Behavior Multiples with Statistical Hypothesis Tests

Figure 11.30 Convergence of the Binomial Lattice to Closed-Form Solutions

Figure 11.31 Convergence of the Customized Binomial Lattice

Figure 11.32 Monte Carlo Simulation of ESO Valuation Result

Figure 11.33 Contribution to Option Valuation Reduction

Figure 11.34 Integrated Risk Management Process

Figure 11.35 Historical Time-Series Data

Figure 11.36 Forecasting Tool in Risk Simulator

Figure 11.37 Forecast Results

Figure 11.38 Static Discounted Cash Flow Model

Figure 11.39 Simulated Discounted Cash Flow Model

Figure 11.40 Probability of at Least Breaking Even

Figure 11.41 Probability of Exceeding IRR Hurdle Rate

Figure 11.42 Probability of Exceeding NPV Expected

Figure 11.43 Calculated NPV Statistics

Figure 11.44 MSLS Analysis Results

Figure 11.45 Worksheet-Based Real Option Analysis Functions

Figure 11.46 SLS Function for Cell C21

Figure 11.47 Graphical Representation of Real Options versus DCF Approaches

Figure 11.48 Graphical Representation of Project Selection Metrics

Figure 11.49 Optimization Preferences

Figure 11.50 Efficient Frontier

Figure 11.51 Strategy Tree for Two Competing Strategies

Figure 11.52 Linking Manufacturing Capacity Investment Decisions to R&D Clinical Trial Outcomes

Figure 11.53 Real Options Analysis—Compound Chooser Options

Figure 11.54 Multiple SLS Solution (Seven Steps)

Figure 11.55 Multiple SLS Solution (70 Steps)

Figure 11.56 Residential Unit and Land Sales Volatility 1995 to 2001

Figure 11.57 London and U.K. Retail Warehouse Volatility 1985 to 2001

Figure 11.58 U.K. and London Retail Warehousing and Residential Correlation

Figure 11.59 MSLS Solution to Switching Option

Figure 11.60 Switching Option Payoff Charts

Figure 11.61 Sensitivity of Volatility and Timing for Retail and Residential

Figure 11.62 Real Options Analysis’ Monte Carlo Simulation Results

Figure 11.63 MSC Strategy Tree

Figure 11.64 Strategy C’s Statistical Probability of Exceeding Strategy B’s Value

Figure 11.65 KVA and Real Options Analysis Cycle

Chapter 12 Results Interpretation and Presentation

Figure 12.1 Enhanced Return with Risk Reduction

Figure 12.2 Real Options Process Summary

Figure 12.3 Project Comparison (Risk and Return)

Figure 12.4 Project Comparison (Common Sizing)

Figure 12.5 Project Comparison (Risk-Return Profiling)

Figure 12.6 Project Valuations in 3D Option Space

Figure 12.7 Efficient Frontier

Figure 12.8 Impact to Bottom Line

Figure 12.9 Critical Success Factors

Figure 12.10 Project-Based Risk Analysis

Figure 12.11 Simulated Discounted Payback Analysis

Figure 12.12 Discount Rate Analysis

Figure 12.13 Real Options Assumptions

Figure 12.14 Real Options Analysis

Figure 12.15 Real Options Risk Analysis

Chapter Summaries

CHAPTER 1: A NEW PARADIGM?

Introduction

This chapter looks at the issues of new decision-making challenges and provides an introduction to real options analysis as the solution to these new challenges. The chapter briefly defines real options analysis and its many forms, when it is used, who has used it in the past, and why it is used. Examples provided come from multiple industries, including oil and gas exploration and production, pharmaceutical research and development, e-commerce valuation, IT infrastructure investment justification, prioritization of venture capital investments, mergers and acquisitions, research and development, Internet start-up valuation, structuring of venture capital contracts, timing of investments, parallel portfolio development, profitability profiling, and so forth. The chapter also profiles the types of options, defines real options analysis, and introduces several sample business cases of how real options are used as well as quotations of what the experts are saying. Finally, actual business cases from industry are provided in the appendixes. These appendixes are contributed by major corporations detailing the applications of real options in their respective companies.

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Lesen Sie weiter in der vollständigen Ausgabe!

Lesen Sie weiter in der vollständigen Ausgabe!

Lesen Sie weiter in der vollständigen Ausgabe!

Lesen Sie weiter in der vollständigen Ausgabe!

Lesen Sie weiter in der vollständigen Ausgabe!

Lesen Sie weiter in der vollständigen Ausgabe!

Lesen Sie weiter in der vollständigen Ausgabe!

Lesen Sie weiter in der vollständigen Ausgabe!

Lesen Sie weiter in der vollständigen Ausgabe!

Lesen Sie weiter in der vollständigen Ausgabe!

Lesen Sie weiter in der vollständigen Ausgabe!

Lesen Sie weiter in der vollständigen Ausgabe!

Lesen Sie weiter in der vollständigen Ausgabe!

Lesen Sie weiter in der vollständigen Ausgabe!

Lesen Sie weiter in der vollständigen Ausgabe!

Lesen Sie weiter in der vollständigen Ausgabe!

Lesen Sie weiter in der vollständigen Ausgabe!

Lesen Sie weiter in der vollständigen Ausgabe!

Lesen Sie weiter in der vollständigen Ausgabe!

Lesen Sie weiter in der vollständigen Ausgabe!

Lesen Sie weiter in der vollständigen Ausgabe!

Lesen Sie weiter in der vollständigen Ausgabe!

Lesen Sie weiter in der vollständigen Ausgabe!

Lesen Sie weiter in der vollständigen Ausgabe!

Lesen Sie weiter in der vollständigen Ausgabe!

Lesen Sie weiter in der vollständigen Ausgabe!

Lesen Sie weiter in der vollständigen Ausgabe!

Lesen Sie weiter in der vollständigen Ausgabe!

Lesen Sie weiter in der vollständigen Ausgabe!