Firm Value Variation Illustrated by Income and Real Option Analysis

Abstract

The article presents valuation models that can be used to derive the value of vary real properties. The valuation of real properties plays a major role in the real estate asset management for example when the real property is being sold (Reinert, 2019). The traditional models were studied, and it was found that the income capitalization method is the most popularly used formula when appraising the commercial spaces as they generate income—the potential income that the real property will generate in the future is estimated income. It was found that the income capitalization approach has its shortcomings. The capitalization rates that are used in the approach are full of assumptions that are subjective to the appraiser that is making the method biased. The methods also do not also incorporate the flexibility of the real property that the managers make. Flexibility in the real estate comes from the ability of the management to alter the nature of the real property project as the future unfolds. Real option approach has been introduced as a new method as it is more accurate because it incorporates the flexibility of the use of the property. The usage of real options in real estate, especially on vacant land can be traced back to 1965 (Sebehela, 2012). It seems that most appraisers are not and/or not skilled in using real options. The article proposes that the real options approach should be the one used when valuing commercial