real options principles of corporate finance seventh edition richard a. brealey stewart c. myers...
TRANSCRIPT
Real Options
Principles of Corporate Finance
Seventh Edition
Richard A. Brealey
Stewart C. Myers
Slides by
Matthew Will
Chapter 22
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22- 2
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Topics Covered
Follow Up Investments Abandon Wait Vary Output or Production
22- 3
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Corporate Options
4 types of “Real Options”1 - The opportunity to make follow-up investments.2 - The opportunity to abandon a project3 - The opportunity to “wait” and invest later.4 - The opportunity to vary the firm’s output or production methods.
Value “Real Option” = NPV with option - NPV w/o option
22- 4
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Intrinsic Value
Option to Wait
Option Price
Stock Price
22- 5
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Intrinsic Value + Time Premium = Option Value
Time Premium = Vale of being able to wait
Option to Wait
Option Price
Stock Price
22- 6
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More time = More value
Option to Wait
Option Price
Stock Price
22- 7
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Example - AbandonMrs. Mulla gives you a non-retractable offer to buy your company for $150 mil at anytime within the next year. Given the following decision tree of possible outcomes, what is the value of the offer (i.e. the put option) and what is the most Mrs. Mulla could charge for the option?
Use a discount rate of 10%
Option to Abandon
22- 8
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Example - AbandonMrs. Mulla gives you a non-retractable offer to buy your company for $150 mil at anytime within the next year. Given the following decision tree of possible outcomes, what is the value of the offer (i.e. the put option) and what is the most Mrs. Mulla could charge for the option?
Option to Abandon
Year 0 Year 1 Year 2
120 (.6)
100 (.6)
90 (.4)
NPV = 145
70 (.6)
50 (.4)
40 (.4)
22- 9
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Option to Abandon
Year 0 Year 1 Year 2
120 (.6)
100 (.6)
90 (.4)
NPV = 162
150 (.4)
Option Value =
162 - 145 =
$17 mil
Example - AbandonMrs. Mulla gives you a non-retractable offer to buy your company for $150 mil at anytime within the next year. Given the following decision tree of possible outcomes, what is the value of the offer (i.e. the put option) and what is the most Mrs. Mulla could charge for the option?
22- 10
McGraw Hill/Irwin Copyright © 2003 by The McGraw-Hill Companies, Inc. All rights reserved
Reality Decision trees for valuing “real options” in a
corporate setting can not be practically done by hand.
We must introduce binomial theory & B-S models
Corporate Options