Applying Binomial Real Options to Technology Firm Valuation

Abstract

The technology industry is seeing a spike in valuations due to an influx of capital to invest in these inefficient markets. Competition, which enforces fair pricing, has shifted from between the companies seeking investment to between the investors. Investors are tending to pay too much money in order to be able to invest because the power is in the hands of the entrepreneur. As a result, the intrinsic value of technology companies is misaligned with what they are valued at during the time of an investment. The focus of this research is to add objectivity to the valuation of technology companies by using the real options method, which hasn’t been applied in the private technology markets. I will be using binomial options valuation method to explore the myriad of possibilities of investments that are “out-of-the-money” and “in-the-money.” These valuations will be compared with their true market value, which will be deduced by their post IPO and fund raising value.