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A review of the valuation methods for real options
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School of Business |
Bachelor's thesis
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en
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27
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The traditional valuation methods, such as net present value, are incapable of capturing the value of managerial flexibility under uncertainty in real investments. Real options analysis offers a solution by incorporating option-pricing theory into the evaluation of real investments. However, the approach has not gained much traction among practitioners despite ample recognition in the literature. The availability of multiple valuation methods for real options analysis and the difficulty of choosing the optimal method are some of the reasons for the lack of application in the corporate world.
This review of real options and valuation literature examines the concept of real options analysis, the attributes of different real options and the available valuation methods. The information is used to analyse the advantages and shortcomings of the methods in various situations.
The aim of the study is to determine the optimal valuation method for real options analysis of different real investments. The study also provides the reader with a basic understanding of the real options approach to valuation, and the capability to identify the various real options embedded in strategic investments.
The results show that there is no universally optimal method, as real investments tend to contain varying complicating features that benefit from different approaches to valuation. However, for individual valuation problems, the ideal method can often be determined, and it is mostly dependent on the complexity of the problem.