Abstract

http://ssrn.com/abstract=2555
 
 

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Investor Valuation of the Abandonment Option


Philip G. Berger


University of Chicago - Booth School of Business

Eli Ofek


New York University (NYU) - Department of Finance

Itzahk Swary


Tel Aviv University - Faculty of Management

January 1996


Abstract:     
We investigate whether investors use balance sheet information to value their option to abandon the continuing business in exchange for the assets' exit value. As opposed to papers that examine the potential for balance sheet disclosures to provide incremental information about the expected level of future going-concern cash flows, our study assesses the extent to which balance sheet information affects firm value given the level of expected going-concern cash flows. Theory prices the abandonment option as an American put with both a stochastic strike price (liquidation value) and a stochastic value of the underlying security (the value of cash flows). The major empirical implications are that firm value increases in exit value, after controlling for expected going-concern cash flows, and that more generalizable assets produce more abandonment option value. Using discounted analysts' earnings forecasts as an input in the construction of a proxy for expected cash flows, and relying on prior literature to categorize asset generalizability, we find strong support for abandonment option theory's predictions.

JEL Classification: G13, G33, G35, M41

working papers series


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Date posted: July 5, 1998  

Suggested Citation

Berger, Philip G. and Ofek, Eli and Swary, Itzahk, Investor Valuation of the Abandonment Option (January 1996). Available at SSRN: http://ssrn.com/abstract=2555

Contact Information

Philip G. Berger (Contact Author)
University of Chicago - Booth School of Business ( email )
5807 S. Woodlawn Avenue
Chicago, IL 60637
United States
773-834-8687 (Phone)
773-834-4585 (Fax)
Eli Ofek
New York University (NYU) - Department of Finance ( email )
Stern School of Business
44 West 4th Street
New York, NY 10012-1126
United States
Itzahk Swary
Tel Aviv University - Faculty of Management ( email )
P.O. Box 39010
Ramat Aviv, Tel Aviv, 69978
Israel
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