Dynamic Investment Decision: Financial Modeling with Real Options vs. NPV

In this paper we apply real options theory to sequential investment. Based on two case studies, we examine the value of options of investment that will be made in many interdependent stages. We develop a combined approach of decision tree and real option. Then we compare our approach to the results given by the traditional Net Present Value. First, we show that applying real options to sequential investment projects incites operators to modify their behavior in relation to the uncertainty by taking into account potential benefits, namely the ability to strongly provide positive results associated with risky projects. Second, we show how real options lead to enhance flexibility and to identify opportunities that were not previously validated.