I was just settling in…no cell phone, no internet…no textbooks…
I am in and out of consciousness…star gazing at noon in the oversized, padded chaise lounge chair. Here I am, bobbing in this big tub in the middle of the Gulf of Mexico, and… out of nowhere…the bingo card sales lady appears and puts her best move on me. I gave her my best demographic counterpunches (e.g., I don’t have blue hair, my wife doesn’t speak Italian or Yiddish; we are years away from social security). But then she lands the knockout punch:
“But Senor, you gotta be in to win!”…and WHAM!...my mind screams “REAL OPTIONS”
Wow, I am thinking, I have to hand it to those trainers at Royal Caribbean…they teach real option theory to their bingo sales folks…amazing…maybe I can get on staff after I leave Kalamazoo College…hmmmm…
We have heard people say that you have to put yourself in the way of luck. In other words, you have to invest resources (time, money, and/or acumen) to create the potential for good things to happen. It is a fact of nature that some seeds grow, and some don’t. But you have to plant and water all of the seeds for some of them to grow and prosper. These concepts are akin to real options, which are real assets (versus financial assets) that have the potential to create value through, for example, economies of scale, economies of learning, flexibility, or changes in highest and best use because of the exogenous.
For example, an electricity generating plant that can operate on oil or natural gas has higher value, especially in times of volatile oil and gas prices, compared to just an oil generating electricity plant. Why? Well, the managers can switch between oil and natural gas to run the turbines to generate electricity as price differentials between the energy sources occur. So, management can always buy the relatively cheaper energy input. Shareholders will value the stock of the dual energy source plant higher than a single source plant, ceteris paribus, because it will make a relatively greater profit as it minimizes energy input costs through exercising the flexibility option embedded within the switching capacity of the plant’s fixed assets.
Think of the plant manager who can use either natural gas or oil, and then think of the plant manager who can only use oil…now, read a current newspaper in which you will find oil prices spiking and natural gas prices plummeting. These days, the plant manager with the flexibility option to switch to natural gas jumps out of bed and screams:
Posted on Sun, February 19, 2012
by Tim Moffit filed under