Question

Rejecting an investment today forever may not be a good choice because: 1. the size of...

Rejecting an investment today forever may not be a good choice because:

1. the size of the firm will decline.

2. the company's foregoing the future rights or option to the investment.

3. the option value is negative.

4. None of the statements.

5. there are always errors in the estimation of NPVs.

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Answer #1

Regecting an investment because the option value is negative may not be a good choice.

The option value depends on the following factors

  1. Effect of exercise price
  2. Effect of value of underlyings
  3. Effect of the risk free rate of interset
  4. Effect of volatility
  5. Effect of time of expiration, etc.

These factors may change time to time. If these impact are more then the option value may become negative and viceversa.

So taking a permanent decision based on the negative option value might go wrong.

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