Real options – A tool to deal with uncertain environment

for core sector management

ABSTRACT

Deepankar Mohanty*, Radha Tiwari*, Satyendra Kumar*and J.K. Pattanayak**

Increased uncertainty and complexity in today’s business scenario because of changed market
and economic conditions, M&A, globalisation, increased completion and the advent of new
and emerging technologies has forced the traditional measures of capital budgeting (NPV &
IRR) no longer adequate. The traditional methods do not provide the flexibility for strategic
decision making in the highly complex and uncertain environment. For uncertain decision
making (especially for investments in technology), real option proves to be the appropriate
option.
The objective of the study is to investigate the application of Real option in emerging
technology applications. The application of real option is gaining popularity because of its
flexibility, dealing with options, dealing with uncertainty. The paper is all about how the
traditional methods of capital budgeting (like NPV & IRR) are losing importance in the
current scenario. The application of real option in various emerging technologies like
biomaterials, hydrogen fuel cells, Nano technology, third generation (3 G) wireless
broadband internet and mobile technologies has proved a great potential value for the firm. It
also has its application in old economy industry, such as oil, gas, energy, copper, and gold
mining sectors.
Real option analysis is a very exciting development in the practise of capital budgeting and
gives a better structured decision making process for complex and interdependent decisions
of new economy. This paper discusses the application of real option in oil and gas projects
and cement industries in developing economies. The study also explains the limitations of
traditional capital budgeting tools (NPV & IRR) and real option. This paper can be used for
gaining knowledge about a new technique of capital budgeting (Real option) which can be
used in the highly uncertain and complex business environment.

* MBA 4th Semester, Department of Management studies, ISMU, Dhanbad-826004, India

E-mail:
deepankarmohanty@rediffmail.com,radshake@gmail.com,satsat246@rediffmail.com
** Associate Professor, Department of Management Studies, ISMU, Dhanbad-826004, India
E-mail: jkpattanayak@yahoo.co.in