Kế toán, kiểm toán - Chapter 14: Real options

CHAPTER 14Real Options1Topics in ChapterReal optionsDecision treesApplication of financial options to real options2What is a real option? Real options exist when managers can influence the size and risk of a project’s cash flows by taking different actions during the project’s life in response to changing market conditions.Alert managers always look for real options in projects.Smarter managers try to create real options.3What is the single most importantcharacteristic of an option?It does not obligate its owner to take any action. It merely gives the owner the right to buy or sell an asset.4(More...)How are real options different from financial options?Financial options have an underlying asset that is traded--usually a security like a stock.A real option has an underlying asset that is not a security--for example a project or a growth opportunity, and it isn’t traded. 5How are real options different from financial options?The payoffs for financial options are specified in the contract.Real options are “found” or created inside of projects. Their payoffs can be varied.6What are some types of real options?Investment timing optionsGrowth options Expansion of existing product lineNew productsNew geographic markets7Types of real options (Continued)Abandonment optionsContractionTemporary suspensionFlexibility options8Five Procedures for Valuing Real Options1.DCF analysis of expected cash flows, ignoring the option. 2.Qualitative assessment of the real option’s value.3.Decision tree analysis.4.Standard model for a corresponding financial option.5.Financial engineering techniques.9Analysis of a Real Option: Basic ProjectInitial cost = $70 million, Cost of Capital = 10%, risk-free rate = 6%, cash flows occur for 3 years. DemandProbabilityAnnual cash flowHigh30%$45Average40%$30Low30%$1510Approach 1: DCF AnalysisE(CF) =.3($45)+.4($30)+.3($15) = $30.PV of expected CFs = ($30/1.1) + ($30/1.12) + ($30/1/13) = $74.61 million.Expected NPV = $74.61 - $70 = $4.61 million.11Investment Timing OptionIf we immediately proceed with the project, its expected NPV is $4.61 million.However, the project is very risky:If demand is high, NPV = $41.91 million.*If demand is low, NPV = -$32.70 million.* _______________________________* See IFM10 Ch14 Mini Case.xls for calculations.12Investment Timing (Continued)If we wait one year, we will gain additional information regarding demand.If demand is low, we won’t implement project. If we wait, the up-front cost and cash flows will stay the same, except they will be shifted ahead by a year.13Procedure 2: Qualitative AssessmentThe value of any real option increases if:the underlying project is very riskythere is a long time before you must exercise the optionThis project is risky and has one year before we must decide, so the option to wait is probably valuable.14Procedure 3: Decision Tree Analysis (Implement only if demand is not low.)NPV this$35.70$1.79$0.00Cost 0Prob. 1 2 3 4Scenarioa-$70$45$45$4530%$040%-$70$30$30$3030%$0$0$0$0Future Cash FlowsDiscount the cost of the project at the risk-free rate, since the cost is known. Discount the operating cash flows at the cost of capital. Example: $35.70 = -$70/1.06 + $45/1.12 + $45/1.13 + $45/1.13. See IFM10 Ch14 Mini Case.xls for calculations.15Project’s Expected NPV if WaitE(NPV) = [0.3($35.70)]+[0.4($1.79)] + [0.3 ($0)]E(NPV) = $11.42.16Decision Tree with Option to Wait vs. Original DCF AnalysisDecision tree NPV is higher ($11.42 million vs. $4.61).In other words, the option to wait is worth $11.42 million. If we implement project today, we gain $4.61 million but lose the option worth $11.42 million.Therefore, we should wait and decide next year whether to implement project, based on demand.17The Option to Wait Changes RiskThe cash flows are less risky under the option to wait, since we can avoid the low cash flows. Also, the cost to implement may not be risk-free.Given the change in risk, perhaps we should use different rates to discount the cash flows.But finance theory doesn’t tell us how to estimate the right discount rates, so we normally do sensitivity analysis using a range of different rates.18Procedure 4: Use the existing model of a financial option.The option to wait resembles a financial call option-- we get to “buy” the project for $70 million in one year if value of project in one year is greater than $70 million.This is like a call option with a strike price of $70 million and an expiration date of one year. 19Inputs to Black-Scholes Model for Option to WaitX = strike price = cost to implement project = $70 million.rRF = risk-free rate = 6%.t = time to maturity = 1 year.P = current stock price = Estimated on following slides. σ2 = variance of stock return = Estimated on following slides.20Estimate of PFor a financial option:P = current price of stock = PV of all of stock’s expected future cash flows.Current price is unaffected by the exercise cost of the option.For a real option:P = PV of all of project’s future expected cash flows.P does not include the project’s cost.21Step 1: Find the PV of future CFs at option’s exercise year.PV at 0Prob. 1 2 3 4Year 1$45$45$45$111.9130%40%$30$30$30$74.6130%$15$15$15$37.30Future Cash FlowsExample: $111.91 = $45/1.1 + $45/1.12 + $45/1.13.See IFM10 Ch14 Mini Case.xls for calculations.22Step 2: Find the expected PV at the current date, Year 0.PV2006=PV of Exp. PV2007 = [(0.3* $111.91) +(0.4*$74.61) +(0.3*$37.3)]/1.1 = $67.82.See IFM10 Ch14 Mini Case.xls for calculations.PVYear 0PVYear 1$111.91High$67.82Average$74.61Low$37.3023The Input for P in the Black-Scholes ModelThe input for price is the present value of the project’s expected future cash flows.Based on the previous slides,P = $67.82.24Estimating σ2 for the Black-Scholes ModelFor a financial option, σ2 is the variance of the stock’s rate of return.For a real option, σ2 is the variance of the project’s rate of return.25Three Ways to Estimate σ2Judgment.The direct approach, using the results from the scenarios.The indirect approach, using the expected distribution of the project’s value.26Estimating σ2 with JudgmentThe typical stock has s2 of about 12%.A project should be riskier than the firm as a whole, since the firm is a portfolio of projects.The company in this example has σ2 = 10%, so we might expect the project to have σ2 between 12% and 19%.27Estimating σ2 with the Direct ApproachUse the previous scenario analysis to estimate the return from the present until the option must be exercised. Do this for each scenarioFind the variance of these returns, given the probability of each scenario.28Find Returns from the Present until the Option ExpiresExample: 65.0% = ($111.91- $67.82) / $67.82.See IFM10 Ch14 Mini Case.xls for calculations.PVYear 0PVYear 1Return$111.9165.0%High$67.82Average$74.6110.0%Low$37.30-45.0%29Expected Return and Variance of Return.E(Ret.)=0.3(0.65)+0.4(0.10) +0.3(-0.45)E(Ret.)= 0.10 = 10%.2 = 0.3(0.65-0.10)2 + 0.4(0.10-0.10)2 + 0.3(-0.45-0.10)22 = 0.182 = 18.2%.30Estimating σ2 with the Indirect ApproachFrom the scenario analysis, we know the project’s expected value and the variance of the project’s expected value at the time the option expires.The questions is: “Given the current value of the project, how risky must its expected return be to generate the observed variance of the project’s value at the time the option expires?”31The Indirect Approach (Cont.)From option pricing for financial options, we know the probability distribution for returns (it is lognormal).This allows us to specify a variance of the rate of return that gives the variance of the project’s value at the time the option expires. 32Indirect Estimate of σ2Here is a formula for the variance of a stock’s return, if you know the coefficient of variation of the expected stock price at some time, t, in the future:σ2 = 1n(CV2 + 1)t33From earlier slides, we know the value of the project for each scenario at the expiration date.PVYear 1$111.91HighAverage$74.61Low$37.3034Expected PV and PVE(PV)=.3($111.91)+.4($74.61) +.3($37.3)E(PV)= $74.61.PV = [.3($111.91-$74.61)2 + .4($74.61-$74.61)2 + .3($37.30-$74.61)2]1/2PV = $28.90.35Expected Coefficient of Variation, CVPV (at the time the option expires)CVPV = $28.90 /$74.61 = 0.39.36Now use the formula to estimate σ2.From our previous scenario analysis, we know the project’s CV, 0.39, at the time it the option expires (t=1 year).σ2 = 1n(0.392 + 1)1= 14.2%37The Estimate of σ2Subjective estimate:12% to 19%.Direct estimate:18.2%.Indirect estimate:14.2%For this example, we chose 14.2%, but we recommend doing sensitivity analysis over a range of σ2.38Black-Scholes Inputs: P=$67.83; X=$70; rRF=6%; t = 1 year; s2=0.142.V = $67.83[N(d1)] - $70e-(0.06)(1)[N(d2)].d1 = ln($67.83/$70)+[(0.06 + 0.142/2)](1) (0.142)0.5 (1).05 = 0.2641.d2 = d1 - (0.142)0.5 (1).05= d1 - 0.3768 = 0.2641 - 0.3768 = - 0.1127.39Black-Scholes ValueNote: Values of N(di) obtained from Excel using NORMSDIST function. See IFM10 Ch14 Mini Case.xls for details.N(d1) = N(0.2641) = 0.6041N(d2) = N(- 0.1127) = 0.4551V = $67.83(0.6041) - $70e-0.06(0.4551)V = $40.98 - $70(0.9418)(0.4551)V = $10.98.40Step 5: Use financial engineering techniques.Although there are many existing models for financial options, sometimes none correspond to the project’s real option.In that case, you must use financial engineering techniques, which are covered in later finance courses.Alternatively, you could simply use decision tree analysis.41Other Factors to Consider When Deciding When to InvestDelaying the project means that cash flows come later rather than sooner.It might make sense to proceed today if there are important advantages to being the first competitor to enter a market.Waiting may allow you to take advantage of changing conditions.42A New Situation: Cost is $75 Million, No Option to WaitCostNPV thisYear 0Prob.Year 1Year 2Year 3Scenario$45$45$45$36.9130%-$7540%$30$30$30-$0.3930%$15$15$15 -$37.70Future Cash FlowsExample: $36.91 = -$75 + $45/1.1 + $45/1.1 + $45/1.1. See IFM10 Ch14 Mini Case.xls for calculations.43Expected NPV of New SituationE(NPV) = [0.3($36.91)] + [0.4(-$0.39)] + [0.3 (-$37.70)]E(NPV) = -$0.39.The project now looks like a loser.44Growth Option: Can replicate the original project after it ends in 3 years.NPV = NPV Original + NPV Replication = -$0.39 + -$0.39/(1+0.10)3 = -$0.39 + -$0.30 = -$0.69.Still a loser, but you would implement Replication only if demand is high.Note: the NPV would be even lower if we separately discounted the $75 million cost of Replication at the risk-free rate.45Decision Tree AnalysisNotes: The Year 3 CF includes the cost of the project if it is optimal to replicate. The cost is discounted at the risk-free rate, other cash flows are discounted at the cost of capital. See IFM10 Ch14 Mini Case.xls for all calculations.CostNPV thisYear 0Prob. 1 2 3 4 5 6Scenario$45$45-$30$45$45$45$58.0230%-$7540%$30$30$30$0$0$0-$0.3930%$15$15$15$0$0$0-$37.70Future Cash Flows46Expected NPV of Decision TreeE(NPV) = [0.3($58.02)]+[0.4(-$0.39)] + [0.3 (-$37.70)]E(NPV) = $5.94.The growth option has turned a losing project into a winner!47Financial Option Analysis: InputsX = strike price = cost of implement project = $75 million.rRF = risk-free rate = 6%.t = time to maturity = 3 years.48Estimating P: First, find the value of future CFs at exercise year.Example: $111.91 = $45/1.1 + $45/1.12 + $45/1.13.See IFM10 Ch14 Mini Case.xls for calculations.CostPV at Prob.Year 0Prob. 1 2 3 4 5 6Year 3x NPV$45$45$45$111.91$33.5730%40%$30$30$30$74.61$29.8430%$15$15$15$37.30$11.19Future Cash Flows49Now find the expected PV at the current date, Year 0.PVYear 0=PV of Exp. PVYear 3 = [(0.3* $111.91) +(0.4*$74.61) +(0.3*$37.3)]/1.13 = $56.05.See IFM10 Ch14 Mini Case.xls for calculations.PVYear 0Year 1Year 2PVYear 3$111.91High$56.05Average$74.61Low$37.3050The Input for P in the Black-Scholes ModelThe input for price is the present value of the project’s expected future cash flows.Based on the previous slides, P = $56.05.51Estimating σ2: Find Returns from the Present until the Option ExpiresExample: 25.9% = ($111.91/$56.05)(1/3) - 1.See IFM10 Ch14 Mini Case.xls for calculations.AnnualPVYear 0Year 1Year 2PVYear 3Return$111.9125.9%High$56.05Average$74.6110.0%Low$37.30-12.7%52Expected Return and Variance of ReturnE(Ret.)=0.3(0.259)+0.4(0.10)+0.3(-0.127)E(Ret.)= 0.080 = 8.0%.2 = 0.3(0.259-0.08)2 + 0.4(0.10-0.08)2 + 0.3(-0.1275-0.08)22 = 0.023 = 2.3%.53Why is σ2 so much lower than in the investment timing example? σ2 has fallen, because the dispersion of cash flows for replication is the same as for the original project, even though it begins three years later. This means the rate of return for the replication is less volatile.We will do sensitivity analysis later.54Estimating σ2 with the Indirect MethodFrom earlier slides, we know the value of the project for each scenario at the expiration date.PVYear 3$111.91HighAverage$74.61Low$37.3055Project’s Expected PV and PVE(PV)=.3($111.91)+.4($74.61) +.3($37.3) E(PV)= $74.61.PV = [.3($111.91-$74.61)2 + .4($74.61-$74.61)2 + .3($37.30-$74.61)2]1/2 PV = $28.90.56Now use the indirect formula to estimate σ2.CVPV = $28.90 /$74.61 = 0.39.The option expires in 3 years, t=3.σ2 = 1n(0.392 + 1)3= 4.7%57Black-Scholes Inputs: P=$56.06; X=$75; rRF=6%; t = 3 years; s2=0.047.V = $56.06[N(d1)] - $75e-(0.06)(3)[N(d2)].d1 = ln($56.06/$75)+[(0.06 + 0.047/2)](3) (0.047)0.5 (3).05 = -0.1085.d2 = d1 - (0.047)0.5 (3).05= d1 - 0.3755 = -0.1085 - 0.3755 = - 0.4840.58Black-Scholes ValueNote: Values of N(di) obtained from Excel using NORMSDIST function. See IFM10 Ch14 Mini Case.xls for details.N(d1) = N(-0.1085) = 0.4568N(d2) = N(- 0.4840) = 0.3142V = $56.06(0.4568) - $75e(-0.06)(3)(0.3142) = $5.92.59Total Value of Project with Growth OpportunityTotal value = NPV of Original Project + Value of growth option =-$0.39 + $5.92 = $5.5 million.60Sensitivity Analysis on the Impact of Risk (using the Black-Scholes model)If risk, defined by σ2, goes up, then value of growth option goes up:σ2 = 4.7%, Option Value = $5.92σ2 = 14.2%, Option Value = $12.10σ2 = 50%, Option Value = $24.08Does this help explain the high value many dot.com companies had before the crash of 2000?61