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Valuing Flexibility as a Complex Option

Alexander J. Triantis and James E. Hodder
The Journal of Finance
Vol. 45, No. 2 (Jun., 1990), pp. 549-565
Published by: Wiley for the American Finance Association
DOI: 10.2307/2328669
Stable URL: http://www.jstor.org/stable/2328669
Page Count: 17
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Since scans are not currently available to screen readers, please contact JSTOR User Support for access. We'll provide a PDF copy for your screen reader.
Valuing Flexibility as a Complex Option
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Abstract

This paper develops an approach for valuing flexible production systems using contingent claims pricing. Demand curves for our model's underlying assets (output products) may be downward sloping, in contrast with the standard option pricing assumption. Also, our marginal production(exercise) costs may be increasing. In addition, we allow for multiple products and a production capacity constraint. These elements of the model result in complex exercise decisions for the contingent claims which comprise the production system's value. We illustrate our approach by valuing a flexible system that produces two products which have profit margin functions with stochastic parameters.

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