Evaluation of Real Options with Information Costs
University of Applied Sciences - Geneva School of Business Administration; University of Poitiers
Universite de Cergy-Pontoise
Inass El Farissi
affiliation not provided to SSRN
February 12, 2011
This paper presents a simple framework for the analysis, valuation and simulation of several real options in the presence of shadow costs of incomplete information. Information costs can be viewed as sunk costs in the spirit of Merton’s (1987) model of capital market equilibrium with incomplete information. We incorporate these sunk costs in standard discounted cash flow techniques and present the basic concepts of real options. The justification of information costs in real projects is based on the observation that R&D needs to be done before investment decisions. These costs account for all the expenses needed to be informed about an investment opportunity and the management of projects. This analysis extends the models in Bellalah (1999, 2001) for the valuation of real options within information uncertainty. We present valuation procedures and simulations for the values of common real options in the presence of shadow costs of incomplete information.
Number of Pages in PDF File: 24
Keywords: Real Option, Asset Pricing, Option Pricing, Market Efficiency, Capital Budgeting, Investment Policy, Information Costs
JEL Classification: G12, G13, G14, G31working papers series
Date posted: February 13, 2011
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