Sequential Capital Budgeting as Real Options: The Case of a New DRAM Chipmaker in Taiwan

Chang-Wen Duan (), William T. Lin and Cheng Few Lee
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Chang-Wen Duan: Department of Banking and Finance, Tamkang University, Taiwan, R.O.C.
William T. Lin: Department of Finance and Applications, Tamkang University, Taiwan, R.O.C.

Review of Pacific Basin Financial Markets and Policies (RPBFMP), 2003, vol. 06, issue 01, 87-112

Abstract: We evaluate the initial public offering price of a new DRAM chipmaker in Taiwan in accordance with the compound real call options model of Lin (2002). The worldwide average sales price is the underlying variable, and the average production cost of the new DRAM foundry is the exercise price. The twin security is defined as a portfolio of DRAM manufacturing firms publicly listed in Taiwan stock markets. We estimate the dividend-like yield with two methods, and find that the yield is negative. The negative dividend-like yield results from the negative correlation between the newly constructed DRAM foundry and its twin security, implying the diversification advantage of a new generation of DRAM foundry with a relative low cost of investment opportunity. We solve the critical value for the multivariate normal integral with the secant method, approximating the integral with the lattice method. It has been found that there is only a 4.6% difference between the market IPO price and the estimated one.

Keywords: Average sales price; CAPM; Compound options; Dividend-like yield; DRAM; Lattice method; Real call options; Secant method; Vector autoregression (search for similar items in EconPapers)
JEL-codes: G1 G2 G3 (search for similar items in EconPapers)
Date: 2003
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Citations: View citations in EconPapers (6)

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DOI: 10.1142/S0219091503000992

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