Flexibility and Real Estate Valuation under Uncertainty

21Product Mix Flexibility: This Chapter Presents the Option to Change Product Mix, and Examines the Effect of Volatility on Option Value

LEARNING OBJECTIVES

• Understand product mix flexibility in real estate development projects;
• See how to model and value this flexibility in the simulation analysis of DCF;
• Understand this flexibility as both a defensive and an offensive option;
• Discover how the value of such flexibility depends on the correlation between the pricing of product types;
• Discover the synergy between product mix and timing options;
• See the effect of volatility on the value of development options.

OUTLINE OF THE CHAPTER

1. 21.1 Product Mix Flexibility
2. 21.2 Modeling the Product Mix Option
3. 21.3 Value of Product Mix Flexibility
4. 21.4 Effect of Combining Product Mix Flexibility and Timing Options
5. 21.5 Effect of Correlation in the Product Markets on the Value of Product Mix Flexibility
6. 21.6 Effect of Volatility on the Value of Flexibility
7. 21.7 Conclusion

This chapter focuses on a different type of flexibility—a product option as distinct from a timing option. We look at the flexibility to change the mix of products—specifically, to switch production between different types of buildings.

We see that product mix flexibility is essentially different from the timing options. It is not merely defensive in nature, but also offensive. Product mix flexibility is thus not redundant to the timing options, as the timing options are among themselves, as we saw in ...