Start-ups Defined as Portfolios of Embedded Options

Pascal Botteron and Jean-François Casanova
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Pascal Botteron: Institute of Banking and Finance, HEC-University of Lausanne and Ernst & Young Ltd.
Jean-François Casanova: Strategic Risk Management

FAME Research Paper Series from International Center for Financial Asset Management and Engineering

Abstract: In this paper we show the advantages of staged investments for venture capitalists. We develop an option-pricing model that enables to evaluate the flexibility acquired by a venture capitalist when he stages his investment process. Instead of investing a fixed amount at the beginning of the investment, the venture capitalist proceeds to a staged investment (one first investment and a second investment). The second investment will be triggered by a successful achievement of the first investment. Should the first investment be unsuccessful, the second investment will not be executed. Staging the investment in two phases enables the investor to reduce its uncertainty at the beginning of the project. As it will be demonstrated in the paper, the decision to proceed to the second investment can be modelled as a portfolio of a call option and a binary option.

Keywords: real options; staged investments; structured products; embedded options (search for similar items in EconPapers)
JEL-codes: G12 G30 G31 G32 G34 M13 (search for similar items in EconPapers)
Date: 2003-05
New Economics Papers: this item is included in nep-cfn, nep-ent and nep-fin
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