CORPORATE FINANCE - REAL OPTIONS Essay Example | Topics and Well Written Essays - 1000 words

CORPORATE FINANCE - REAL OPTIONS - Essay ExampleThe ral-options technique has been used in industries like extractors of natural resources, enrgy firms, and pharmaceuticals corporations, which have a gratr scale of uncrtainty in business investments i.e., as far as the crude oil-drilling industry is concrned, uncrtainties comprise issues such as what the cost of the lased/purchased land will be. How large the oil resrves would be What is the appropriate price for the lase on the resrve Questions similar to these have led to the use of the ral-options methodology as a systematic analytical tool to judge these investments in business technology.Ral options tendr an additional valuable comparison with financial investing that holding a varied portfolio of stocks is lessr risky than owning only one stock. Applying this understand of offsetting risk to asset/project evaluation allows for the incorporation of capital budgeting issues with physical assets on the one hand, and the integra tion of decision-tree analysis on the othr. Ral assets washbowl be evaluated apply available techniques developed for financial options, such as the Black and Scholes model.GENENTECH Drug development at Genentech and othr similar companies is inhrently a stage gate process in which ach victoryive phase depends on the success of the previous phase. ach stage is similar to purchasing a call option and the entire process can be viewed as a sries of call options. At Genentech, ral options have been used in this mannr in the analysis of all drug development projects since 1995. One of the most primary(prenominal) fatures of the ral options approach is its recognition that investment values vary ovr time and that management has the ability to trminate investments whose future value has fallen below zro. Traditional discounted cash liquify methods genrally do not account for this contingent decision-making or active management and, as a result, will undrvalue flexible investments. The drug development process can be improved simply by incorporating this undrstanding into project valuation. Applied in this mannr, a ral option provides a consistent language and method to evaluate and oppose all projects more effectively across the company. More recently, Genentech has begun to expand its use of ral options through development of a new entrprise-wide investment planning system. In this system, three-card monte Carlo simulation is used to develop the appropriate distributions for relevant costs and revenues, and the risk-neutral approach is being adopted to take advantage of financial data that alrady exist within the company. This more sophisticated approach will extend the gains that Genentech has alrady made in this ara.TEXACO Texaco is one of a handful of major global enrgy companies. A grat part of the success of Texaco and similar firms is their ability to identify the right major capital investments, both intrnal and extrnal, and manage them appropriately. In the mid-1990s, Texaco began to recognize the critical importance of top-notch investment valuation and management. Texaco had besotted analytical skills, using a variety of techniques such as DCF, Monte Carlo simu