Title: Company valuation under risk and flexibility: discrete models comparison

Authors: Miroslav Čulík

Addresses: Faculty of Economics, Department of Finance, VSB-Technical University Ostrava, Sokolska trida 33, 701 21, Ostrava, Czech Republic

Abstract: This paper concentrates on the comparison of company valuation models under risk and flexibility (real option approach). This approach simultaneously reflects uncertainty in a company's future cash flows and flexibility in decision-making. Here, models for financial options valuation are applied on company assets. Equity value is calculated as American real call option hold by shareholders on company assets. Result of the valuation is the company's equity market value. The paper is organised as follows: first, general model for company equity valuation under risk and flexibility (as a real call option) is described. Next, a case study is solved where discrete models (binomial and trinomial) are compared when applied for company equity valuation. Moreover, results are compared with the situation when the assumption of flexibility is relaxed. In the end, sensitivity analysis is performed, when the impact of changes in selected inputs on the company equity value is examined.

Keywords: company valuation; discrete models; binomial model; trinomial model; real options; equity value; sensitivity analysis; risk; flexibility; modelling; uncertainty; future cash flows; real call option.

DOI: 10.1504/IJRAM.2014.062780

International Journal of Risk Assessment and Management, 2014 Vol.17 No.4, pp.268 - 282

Available online: 16 Jun 2014 *

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