Capital budgeting frequently involves multiple stages at which firms can continue or abandon ongoing projects. In this paper, we study a project requiring two stages of investment. Failure to fund Stage 1 of the investment precludes investment in Stage 2, whereas failure to fund Stage 2 results in early termination. In contrast to the existing literature, we assume that the firm can limit the m...

This chapter provides principles, literature and a case study about the economics of agroforestry. We examine necessary conditions for achieving efficiency in agroforestry system design and economic analysis tools for assessing efficiency and adaptability of agroforestry. The tools presented here (capital budgeting, linear progranuning, production frontier analysis and risk analysis) can help d...

Given a finite ground set N and a value vector a ∈ R , we consider optimization problems involving maximization of a submodular set utility function of the form h(S) = f (∑ i∈S ai ) , S ⊆ N , where f is a strictly concave, increasing, differentiable function. This function appears frequently in combinatorial optimization problems when modeling risk aversion and decreasing marginal preferences, ...

Conventional capital budgeting techniques such as the discounted cash flow analysis fail to recognize managerial flexibility that may have a huge option value. Such managerial flexibility may include abandonment option, option to defer development, option to expand, option to contract, and switching options. Though the extension of option pricing theory to valuation of other assets is not a nov...

This paper shows that the standard textbook formula for computing the present value of a future random cash flow – the discounted expected value – is formally incorrect and can generate significant errors when used to compute present values. The correct present value method is provided as well as a simple adjustment to the textbook formula which can be used to obtain an approximation to the cor...

We model the internal capital market of a conglomerate where headquarters must rely on information reported by division managers to allocate limited resources across competing projects. Managers may exaggerate project quality to attract more capital, which limits the extent of winner-picking in capital budgeting. Focus (correlated projects) helps headquarters to infer information regarding proj...