Options, the Value of Capital, and Investment

Andrew Abel (), Avinash Kamalakar Dixit (), Janice Eberly () and Robert S. Pindyck ()

No 5227, NBER Working Papers from National Bureau of Economic Research, Inc

Abstract: Capital investment decisions must recognize the limitations on the firm's ability later to sell off or expand capacity. This paper shows how opportunities for future expansion or contraction can be valued as options, how this valuation relates to the q-theory of investment, and how these options affect the incentive to invest. Generally, the option to expand reduces the incentive to invest, while the option to disinvest raises it. We show how these options interact to determine the effect of uncertainty on investment, how these option values change in response to shifts of the distribution of future profitability, and how the q-theory and option pricing approaches to investment are related.

Date: 1996-11
Note: AP EFG IO PR
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Published as Quarterly Journal of Economics, vol. 111, no. 3, pp. 753-777, August 1996.

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Related works:
Working Paper: Options, the Value of Capital, and Investment
Working Paper: Options, the value of capital, and investment (2003)
Journal Article: Options, the Value of Capital, and Investment (1996)
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