Valuing Corporate Growth Using Real Options

Abstract

The corporate DCF model is often criticized for its limitations in valuing investments with significant multi-period growth opportunities. The current paper offers a practical methodology that employs recombining binomial trees and real option techniques to value companies pursuing organic growth strategies in case of demand uncertainties. A specially constructed recombining tree is adapted to valuations of multiple American-type compound growth options. Computational complexity is considerably reduced; this makes these solutions feasible for implementation in business practice and empirical testing.