Evaluation Method for Strategic Investments

Real Options Analysis (ROA) has become a complimentary tool for engineering economics. It has become popular due to the limitations of conventional engineering valuation methods; specifically, the assumptions of uncertainty. Industry is seeking to quantify the value of engineering investments with uncertainty. One problem with conventional tools are that they may assume that cash flows are certain, therefore minimizing the possibility of the uncertainty of future values. Real options analysis provides a solution to this problem, but has been used sparingly by practitioners. This paper seeks to provide a new model, referred to as the Beta Distribution Real Options Pricing Model (BDROP), which addresses these limitations and can be easily used by practitioners. The positive attributes of this new model include unconstrained market assumptions, robust representation of the underlying asset‟s uncertainty, and an uncomplicated methodology. This research demonstrates the use of the model to evaluate the use of automation for inventory control.

Weather Derivatives as a Potential Risk Management Tool for Irrigators

Irrigators in the Republican Basin and in parts of the North Platte Basin must learn to incorporate multiple year drought risk into their management plans, as they adapt to the limitations imposed by five-year pumping allocations. A major concern involves the implications of being water-short during the later years of the allocation period, because of an accumulative rainfall shortage or drought. Currently, producers can either ignore the risk of substantially lower incomes if their allocation is exhausted too soon, or reduce the risk by using less water early in the allocation period. The latter approach, however, may substantially reduce the present value of total net income over the five-year period. Alternatively, in the future it may be possible to use weather derivatives to manage income risk.