Option to Abandon and Investment Return
21 Pages Posted: 24 Oct 2017 Last revised: 18 Jan 2018
Date Written: September 7, 2017
We analyze returns to lumpy projects with multiple investors. Since each investor's commitment increases the likelihood of project completion it exerts a positive externality on other investors. We show that due to this externality either a rise in the cost of abandoning the project or decreased volatility of returns to abandonment can increase ex-ante returns. These findings provide exceptions to the standard results that investment irreversibility (high abandonment costs) decreases returns and option volatility increases returns. Finally, we show that the optimal number of investors is either large or very small.
Keywords: Abandonment Option, Lumpy Projects, Return on investment, Firm performance
JEL Classification: G23, G32, G34
Suggested Citation: Suggested Citation