Risk as Strategic Management Vehicle: Real Options Analysis Alexander Bukhvalov PricewaterhouseCoopers Professor of Finance GSOM SPSU 6 th Annual Adam Smith Institute Conference Russian CFO Summit October 29, 2009

Uncertainty and Strategy 1 Central role of the issue is underscore by recent survey papers from McKinsey и Deloitte. The last one clearly settles the issue of new positioning for CFOs among the other vice- presidents, i.e. their participation in the design and monitoring of the strategy in strategic team rather than traditional informational-and- accounting job for the company.

Uncertainty and Strategy 2 The future is necessarily subject to uncertainty. Uncertainty in economics is not predictable. Uncertainty, the same as risk, provides both opportunities and dangers. Decision making under uncertainty is done with such a modern tool as Real Options Analysis (ROA).

Real Options Real option is an opportunity for future flexible managerial decisions. This opportunity is related to irreversible investment and is specially designed by the managers to operate in uncertain and unpredictable environment.

Real Options: Examples Flexible technologies (pipeline vs liquefied gas in natural gas transportation) Outsourcing Early termination lease contracts Brands Innovation Consequences: Technique and logic of RO is close to CFOs skills Opportunities of new and/or alternative schemes are better known to experts in strategy and production Team work is necessary

Real Options & Risk Management Real options provides new classification of assets: Traditional Assets: higher the risk lower assets value Optional Assets: higher the risk higher assets value. This is true for assets with build-in real options This is foundation for modern risk management.

Real Options: Reading Бухвалов А.В. 2004a. Реальные опционы в менеджменте: введение в проблему. Российский журнал менеджмента 2 (1): 3–32. Бухвалов А.В. 2004б. Реальные опционы в менеджменте: классификация и приложения. Российский журнал менеджмента 2 (2): 27–56. Бухвалов А.В Реальны ли реальные опционы. Российский журнал менеджмента 4 (3): 77–84. Бухвалов А.В Асимметрия между инсайдерами и аутсайдерами: проблемы двойственности оценки активов компании. Российский журнал менеджмента 6 (4): 17–48. – electronic versions of all papers – authors site