Telecommunications , the Internet , and the Cost of Capital

In this paper we apply a simple two-period model of investment to examine how consideration of the real options associated with investment decisions might be expected to affect the cost of capital for telecommunications infrastructure firms in light of the tumultuous changes associated with the emergence of the Internet. Because investments in new telecommunications facilities also may provide access to additional growth opportunities (e.g., to enter new information service markets) or strategic flexibility (e.g., enhanced ability to respond to changing traffic demand patterns), these investments may also create valuable options. Therefore application of contemporary investment theory to estimating the cost of capital for telecommunications firms should consider the impact of changes in technology, the regulatory environment, and the structure of the telecommunications infrastructure industry in order to assess the relative magnitude of competing investment options. We explain why we believe the Internet and the changes it is bringing to the communications infrastructure industries is reducing the value of the option to delay while increasing the value of the options associated with increased growth opportunities and strategic flexibility.