OPTIMIZING LOCATION AMONGN-COUNTRIES UNDER EXCHANGE RATE UNCERTAINTY: APPLYING REAL OPTIONS

Cheng-Ru Wu () and Chin-Tsai Lin ()
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Cheng-Ru Wu: Department of Finance, Yuanpei University, 306 Yuanpei St., Hsin Chu 300, Taiwan, R.O.C.
Chin-Tsai Lin: Graduate Institute of Business and Management, Yuanpei University, 306 Yuanpei St., Hsin Chu 300, Taiwan, R.O.C.

Asia-Pacific Journal of Operational Research (APJOR), 2007, vol. 24, issue 01, 21-44

Abstract: This study considers the effects of one real exchange rate on strategies that govern locations of production by firms that are enteringN - 1foreign countries. The batch process production model (Lin, CT and CR Wu (2004a). Asia Pacific Journal of Operational Research, 21, 35–52) which considers two locations of production, one in each of two countries is extended to develop a decision valuation model to choose the two optimal locations to produce a good — one in each country. This extended model applies the real options approach (ROA) to determine the value of locating production inNcountries. Moreover, a closed-form solution to the Continuous-Time Model Optimization Problem is derived. The optimal entry threshold value of a firm from country-0 to country-(N - 1)is calculated; a sensitivity analysis is performed, and some characteristic strategies of the operating method for the Constant Elasticity of Substitution (CES) batch process model amongNcountries are determined. Next, we can get optimal entry threshold value for Cobb-Douglas, perfect substitution and Leontief by CES production function. A useful summary of insights is provided for global managers.

Keywords: Real options; multinational production; exchange rate; batch process; operational flexibility (search for similar items in EconPapers)
Date: 2007
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DOI: 10.1142/S0217595907001103

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