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Homework answers / question archive / Projects are also often embedded with different options that can help making decisions under uncertainty
Projects are also often embedded with different options that can help making decisions under uncertainty. There are techniques used to evaluate these embedded options which are called real options. The models used to value these options are based on the type of the real option available for the project.
1. True or False: A real option embedded in a capital project gives the investing firm the right but not the obligation to buy, sell, or transfer an asset at a set price during a specified period of time.
a. True
b. False
2. Which type of real option allows a firm to temporarily terminate operations in order to prevent experiencing negative cash flows?
a. An investment timing option
b. An input flexibility option
c. A shutdown option
d. A growth option
3. Real option analysis adds value to a project when it is used for which of the following? Check all that apply.
a. Making managers aware of the consequences of their decisions and actions on the creation or destruction of value for a capital project
b. Identifying real options that can be sold in the financial markets
c. Making managerial decision making less deliberate and analytical
d. Expanding the way that managers view risk and uncertainty, seeing them as phenomena to be appreciated and exploited rather than feared and avoided
1. TRUE- Real options are always a right, not an obligation to buy sell or transfer an asset because it will always provide additional flexibility.
2. (C) SHUTDOWN OPTIONS- these shutdown options will be offering the firm with flexibility of temporally terminating operation in order to prevent negative cash flows.
3. Following adds to the value of the company-
(A) Making managers aware of the consequences of their decisions and actions of the creation or destruction of the value of the capital project and he will be modifying decisions in order to increase the attractiveness of project.
(D) Expanding the way managers view risk and uncertainty by seeing them as a phenomenon to be appreciated and exploited rather than feared and avoided, so they will be trying to maximize their rate of return by enhancing the ability of the company to exploit the risky situation.
