Value-at-risk analysis for real options in complex engineered systems

This paper presents a simple but powerful real options valuation methodology suitable for valuing flexibility in complex engineered systems. It is based on value-at-risk analysis and relies on a standard discounted cash flow approach. It demonstrates the method with a case study of the architecting of flexible fleets of satellites. The architecting framework integrates spacecraft engineering design with economic analysis to maximize the financial value of a fleet to the operator under realistically uncertain, evolving market conditions. The investigation considers possible evolutions of the forecast demand for a satellite service in two distant geographical markets simultaneously. It defines flexible fleets that significantly improve various aspects of the value-at-risk distributions compared to those of a traditional, rigid fleet architecture. It shows that the flexible architectures can capture more revenue, mitigate more risk and/or reduce overall required investment. The suggested real options "in" the system, rather than "on" the system, approach allows engineers, strategists, or decision makers in engineering establishments to embed flexibility in the design of complex systems so they can maximize total lifetime project value.