Encyclopedia of Law and Economics

2019 Edition
| Editors: Alain Marciano, Giovanni Battista Ramello

Real Options

  • Peter-Jan EngelenEmail author
  • Danny Cassimon
Reference work entry
DOI: https://doi.org/10.1007/978-1-4614-7753-2_406

Definition

The incorporation and valuation of operational flexibility and of strategic value of investments in the decision-making process under uncertainty. The option nature of the investment decision arises from the coexistence of uncertainty, irreversibility, and timing flexibility and allows reaping upside potential while insulating from downside risk.

Introduction

The decision to allocate resources to investment opportunities is traditionally evaluated using a net present value (NPV) approach for private sector projects or a cost-benefit approach for public sector projects. Typically, it sums all the incoming and outgoing cash flows over the lifetime of a project, each discounted at an appropriate risk-adjusted discount rate to derive its present value. The latter is compared with the (current) initial investment cost needed to start the project. In case the outcome of this comparison renders a positive result, one decides to invest; in the other case, one rejects the project....

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Further Reading

  1. Amran M, Kulatilaka N (1999) Real options. Harvard Business School Press, Boston, 246 pGoogle Scholar
  2. Dixit A, Pindyck R (1994) Investment under uncertainty. Princeton University Press, PrincetonGoogle Scholar
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  5. Parisi F, Fon V, Ghei N (2004) The value of waiting in lawmaking. Eur J Law Econ 18(2):131–148CrossRefGoogle Scholar
  6. Trigeorgis L (1996) Real options. MIT Press, Cambridge, 427 pGoogle Scholar

Copyright information

© Springer Science+Business Media, LLC, part of Springer Nature 2019

Authors and Affiliations

  1. 1.Utrecht School of Economics (USE)Utrecht UniversityUtrechtThe Netherlands
  2. 2.Faculty of Business and Economics, University of AntwerpAntwerpenBelgium
  3. 3.Institute of Development Policy and Management (IOB)University of AntwerpAntwerpBelgium