Binomial model of real option valuation

Abstract

Real option valuation methods used in firm valuation process allow taking into consideration firm’s flexibility and its adaptability to environmental changes. In the binomial tree model it is assumed that stock price changes are composed of a great number of small binomial changes. This assumption was first used by Cox, Ross and Rubinstein. In the method, the time period to expiration date is divided into small periods of time ?t. In each period of time ?t share price can change to one of the two values: Su or Sd. Assuming that u > 1, dreal options, binomial model, value of the firm