Real Options

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Real Option Memo

To: Dave Jacobs
From: James Jones
Date: November 26, 2012
Re: College Education

Intro and type of flexibility with this option
The option I’m going to discuss in this memo is whether I should continue on with my college career year after year, or just to abandon receiving a higher education and make my part time job a full time job. From the 7S framework, my real option would be the Disinvest/Shrink then the scope down option (abandon). Sources of uncertainty

There are several sources of uncertainty that makes this option valuable. The first source of uncertainty is there’s not a guarantee that I will have a job after I graduate. Secondly, if I were to get a job, would I be in the field I want? Finally, would the salary that I would be earning cover my expenses and the loans I’ve incurred with going to the university? Estimating the volatility and source of information

I would estimate the volatility of the total unpredictability of my real option by doing some research. There are many sites that provide information on expected income. I would find out how much a first year tax accountant would expect to earn. This would be the driving factor in the volatility because the amount I would earn at my current job could be accurately estimated at a full time rate. The present value of the future cash flows could be calculated by using the estimate given for a first year tax accountant. There wouldn’t be any fixed costs to execute the option because there isn’t a fee to pay to drop out of school. The only cost that I could incur would be the tuition money that I may lose and that will be explained in the upcoming paragraph. Time to exercise option

I can exercise this option at any point throughout the year. However, if I want to receive a full refund for the tuition that I paid for, I would have to drop out within the first seven days of a semester starting. Any time after that, I would only be refunded a portion of the...
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