Valuation: From The Discounted Cash Flows (DCF) Approach To The Real Options Approach (ROA)
Main Article Content
Keywords
Real Options, Valuation, Discounted Cash Flows, Net Present Value, Capital Budgeting
Abstract
There exists an abysm between market prices and traditional valuation approaches such as Discounted Cash Flows (DCF), a fact that neither academics nor practitioners could continue ignoring. Recently, a complementary approach has taken a foothold into the valuation world. Building on the DCF approach yet going further in the sense of incorporating flexibility in management investment decisions, and taking advantage of the advances in option pricing theory, the real options approach (ROA) has become the alternative to capital budgeting and, lately, to corporate valuation. Empirical evidence shows that ROA explains actual prices better than DCF approaches and nowadays there is no question that from a theoretical point of view, ROA is a much more appealing concept than passive NPV. However, its acceptance by practitioners has been very slow due to the complexity of real options pricing.
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References
Amran, M. and N. Kulatilaka. (1998). Real Options: Managing Strategic Investment in An Uncertain World. University Press. Oxford University.
Bailey, W. (1991). “Valuing Agricultural Firms: An Examination of the Contingent Claims Approach to Pricing Real Assets”. En: Journal of Economic Dynamics and Control 15, pp.771- 791.
Black, F. and M. Scholes. (1973). “The pricing of options and corporate liabilities”. En: Journal of political economy. 81. pp.637-659.
Bodie, Z., A. Kane, a nd A. Marcus. (2002). Investments. 5th Ed. Boston. McGraw-Hill Irwin
Boer, F.P. (2002). “Financial Management of R&D 2002”. http://www.boer.org/files/2002.pdf.
Brealey, R. A. and S. C. Myers. (2000). Principles of Corporate Finance. 6th Ed. Boston. Irwin McGraw-Hill.
Bulan, L. (2001). “Real Options, Irreversible Investment and Firm Uncertainty: New Evidence from U.S. Firms”. En: Working Paper, March, 2001.
Busby, J. and C. Pitts. (1997). “Real Options in Practice: An Exploratory Survey of How Decision Makers in Industry Think About Flexibility”. En: Management Accounting Research 8. pp.169-186.
Clark, E., Gadad, M. and P. Rousseau. (2004). “Investor Valuation of the Abandonment Option: Empirical Evidence from UK Divestitures”.http://www.realoptions.org/ papers2004/ClarkRealOp2004.pdf (July 31st, 2004).
Copeland, T., T. Koller, and J. Murrin. (2000). Valuation: Measuring and Managing the Value of Companies. 3rd Ed. New York. John Wiley & Sons.
Copeland, T. and V. Antikarov. (2001). Real Options: A Practicioner’s Guide. New York: Texere.
Cox, J.C., S.A. Ross, and M. Rubinstein. (1979). “Option Pricing: A Simplified Approach”. En: Journal of Financial Economics 7. pp.229-263.
Dixit, A.K. and R.S. Pindyck. (1994). Investment Under Uncertainty. New Jersey. Princeton University Press.
Kulatilaka, N. and A. Marcus. (1992). “Project Valuation Under Uncertainty: When does DCF fail?”. En: Journal of Applied Corporate Finance 5, 3. pp.92-100.
Kulatilaka, N. and L. Trigeorgis. (1994). “The General Flexibility to Switch: Real Options Revisited”. En: The International Journal of Finance 6, 2. pp.778-798.
Maya, C. (2003). "Valuation of financial Assets using Monte Carlo: When the World is not so Normal". En: Revista de Economía del Rosario, 7, 1. pp.1-17
Maya, C. (2004). Valuating a Start-Up Firm: Creative Destruction and Real Options. http://www.realoptions.org/papers2004/ MayaCreativeDest.pdf (July 31, 2004).
McDonald, R., and D. Siegel. (1985). “Investment and the Valuation of Firms when There is an Option to Shut Down”. En: International Economic Review 26, pp.331-349.
Merton, R.C. (1973). “Theory of Rational Option Pricing”. En: Bell Journal of Economics and Management Science, 4, (Spring), pp.141-83.
Miller, L. and C. Park (2002). “Decision Making under Uncertainty: Real Options to the Rescue?”. En: The Engineering Economist 47, 2. pp.105-151.
Moel, A., and P. Tufano. (2002). “When are Real Optins Exercised? An Empirical Study of Mine Closings”. En: Review of Financial Studies 15. pp.35-64.
Myers, S.C. (1976). “Postcript: Using Simulation for Risk Analysis” In S.C. Myers (ed.), Modern Developments in Financial Management. New York. Praeger Publishers.
Paddock, J.D., D. Siegel, and J. Smith. (1988).“Option Valuation of Claims on Physica lAssets: The Case of Offshore Petroleum Leases”. En: Quarterly Journal of Economics103, 3. pp.479-508.
Quigg, L. (1993). “Empirical Testing of Real Option Pricing Models”. En: Journal of Finance 48, 2. pp.621-640
Tong, T. and J. Reuer. (2004). Corporate Investment Decisions and the Value of Growth Options. http://www.realoptions.org/ papers2004/TongReuerGrowthOpt.pdf (July 31, 2004)
Triantis, A. and A. Borison. (2001). “Real Options: State of the Practice”. En: Journal of Applied Corporate Finance 14, 2.pp. 8-24.
Trigeorgis, L.. (1986). Valuing Real Investments Opportunities: An Options Approach to Strategic Capital Budgeting. Unpublished, Ph.D. Dissertation. Harvard University.
Trigeorgis, L. (1988). “A Conceptual Options Framework for Capital Budgeting”. En: Advances in Futures and Options Research 3. pp.145-167.
Trigeorgis, L. (1996). Real Options: Managerial Flexibility and Strategy in Resource Allocation. Cambridge. MIT Press.
Wilmott, P. (1998) Derivatives. John Wiley & Sons, University edition.
Yao, H. and F. Pretorius (2004) “Empirical Testing of Real Options in the Hong Kong Residential Estate Market”.
Bailey, W. (1991). “Valuing Agricultural Firms: An Examination of the Contingent Claims Approach to Pricing Real Assets”. En: Journal of Economic Dynamics and Control 15, pp.771- 791.
Black, F. and M. Scholes. (1973). “The pricing of options and corporate liabilities”. En: Journal of political economy. 81. pp.637-659.
Bodie, Z., A. Kane, a nd A. Marcus. (2002). Investments. 5th Ed. Boston. McGraw-Hill Irwin
Boer, F.P. (2002). “Financial Management of R&D 2002”. http://www.boer.org/files/2002.pdf.
Brealey, R. A. and S. C. Myers. (2000). Principles of Corporate Finance. 6th Ed. Boston. Irwin McGraw-Hill.
Bulan, L. (2001). “Real Options, Irreversible Investment and Firm Uncertainty: New Evidence from U.S. Firms”. En: Working Paper, March, 2001.
Busby, J. and C. Pitts. (1997). “Real Options in Practice: An Exploratory Survey of How Decision Makers in Industry Think About Flexibility”. En: Management Accounting Research 8. pp.169-186.
Clark, E., Gadad, M. and P. Rousseau. (2004). “Investor Valuation of the Abandonment Option: Empirical Evidence from UK Divestitures”.http://www.realoptions.org/ papers2004/ClarkRealOp2004.pdf (July 31st, 2004).
Copeland, T., T. Koller, and J. Murrin. (2000). Valuation: Measuring and Managing the Value of Companies. 3rd Ed. New York. John Wiley & Sons.
Copeland, T. and V. Antikarov. (2001). Real Options: A Practicioner’s Guide. New York: Texere.
Cox, J.C., S.A. Ross, and M. Rubinstein. (1979). “Option Pricing: A Simplified Approach”. En: Journal of Financial Economics 7. pp.229-263.
Dixit, A.K. and R.S. Pindyck. (1994). Investment Under Uncertainty. New Jersey. Princeton University Press.
Kulatilaka, N. and A. Marcus. (1992). “Project Valuation Under Uncertainty: When does DCF fail?”. En: Journal of Applied Corporate Finance 5, 3. pp.92-100.
Kulatilaka, N. and L. Trigeorgis. (1994). “The General Flexibility to Switch: Real Options Revisited”. En: The International Journal of Finance 6, 2. pp.778-798.
Maya, C. (2003). "Valuation of financial Assets using Monte Carlo: When the World is not so Normal". En: Revista de Economía del Rosario, 7, 1. pp.1-17
Maya, C. (2004). Valuating a Start-Up Firm: Creative Destruction and Real Options. http://www.realoptions.org/papers2004/ MayaCreativeDest.pdf (July 31, 2004).
McDonald, R., and D. Siegel. (1985). “Investment and the Valuation of Firms when There is an Option to Shut Down”. En: International Economic Review 26, pp.331-349.
Merton, R.C. (1973). “Theory of Rational Option Pricing”. En: Bell Journal of Economics and Management Science, 4, (Spring), pp.141-83.
Miller, L. and C. Park (2002). “Decision Making under Uncertainty: Real Options to the Rescue?”. En: The Engineering Economist 47, 2. pp.105-151.
Moel, A., and P. Tufano. (2002). “When are Real Optins Exercised? An Empirical Study of Mine Closings”. En: Review of Financial Studies 15. pp.35-64.
Myers, S.C. (1976). “Postcript: Using Simulation for Risk Analysis” In S.C. Myers (ed.), Modern Developments in Financial Management. New York. Praeger Publishers.
Paddock, J.D., D. Siegel, and J. Smith. (1988).“Option Valuation of Claims on Physica lAssets: The Case of Offshore Petroleum Leases”. En: Quarterly Journal of Economics103, 3. pp.479-508.
Quigg, L. (1993). “Empirical Testing of Real Option Pricing Models”. En: Journal of Finance 48, 2. pp.621-640
Tong, T. and J. Reuer. (2004). Corporate Investment Decisions and the Value of Growth Options. http://www.realoptions.org/ papers2004/TongReuerGrowthOpt.pdf (July 31, 2004)
Triantis, A. and A. Borison. (2001). “Real Options: State of the Practice”. En: Journal of Applied Corporate Finance 14, 2.pp. 8-24.
Trigeorgis, L.. (1986). Valuing Real Investments Opportunities: An Options Approach to Strategic Capital Budgeting. Unpublished, Ph.D. Dissertation. Harvard University.
Trigeorgis, L. (1988). “A Conceptual Options Framework for Capital Budgeting”. En: Advances in Futures and Options Research 3. pp.145-167.
Trigeorgis, L. (1996). Real Options: Managerial Flexibility and Strategy in Resource Allocation. Cambridge. MIT Press.
Wilmott, P. (1998) Derivatives. John Wiley & Sons, University edition.
Yao, H. and F. Pretorius (2004) “Empirical Testing of Real Options in the Hong Kong Residential Estate Market”.
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Published
Dec 23, 2004
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How to Cite
Maya Ochoa, C. (2004). Valuation: From The Discounted Cash Flows (DCF) Approach To The Real Options Approach (ROA). AD-Minister, (5), 59–73. Retrieved from https://publicaciones.eafit.edu.co/index.php/administer/article/view/678
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Author Biography
Cecilia Maya Ochoa, Universidad EAFIT
Ph.D. Internacional Economics and FinanceAuthors who publish with this journal agree to the following terms:
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