Analyzing the WiMAX Investment Costs and NPV Distributions for Real Option Valuation

Abstract

The shape of the Net Present Value (NPV) distribution varies depending on the technology and construction strategy of the network. This makes the real option valuation challenging since the assumptions of the valuation models must be satisfied for reliable results. In this study, we analyze the suitability of the real option methods in the valuation of WiMAX networks by simulating an investment project in a rural area. We examine the influences of different uncertainty models and the shapes of the resulting investment costs, NPVs, and NPV ratios. The analysis in this study shows that the shape of the uncertainty — or error — in the parameters docs not affect the shapes of the investment costs or NPV distribution. Instead, the subject of the uncertainty — i.e., the parameters for which the uncertainty is modeled — matters. Especially, the uncertainty in the service rate growth or population growth parameter influence the resulting distributions. The investment costs are positively skewed and can be approximated by a log-normal distribution. This makes NPV negatively skewed. Analytical option valution formulas give the same results as simulation, only if the assumptions are sufficiently fulfilled and the parameters properly estimated. The study shows that NPV and NPV ratio arc in some events negative and thus they cannot safely be modeled using log-normal distributions. The analyzed network investment in a rural area is profitable. The project contains some uncertainties and thus the option valuation increases the profitability compared to NPV.