Arundel Partners: the Sequel Project 1

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Case 1. Arundel Partners: The Sequel Project 1. Why do the principals of Arundel Partners think they can make money buying movie sequel rights? Why do the partners want to buy a portfolio of rights in advance rather than negotiating movie-by-movie to buy them?
The principals at Arundel Partners believe that there is value that is not captured in a discounted cash flow when analyzing the launching of a film. They believe that by launching a new film, there is immediately an option to launch a sequel that can generate future cash flows not accounted in the discounted cash flow. Since creating a sequel of an original film is not an obligation, the studio can wait and see if the original film had a positive net present value and decide
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3. What are the primary advantages and disadvantages of the prior approaches, DCF and Black-Scholes, that you took in valuing the rights? Please be specific about their assumptions. What further assistance or data would you require to refine your estimate of the right’s value?
Advantages of the Discounted Cash Flows
The discounted cash flows seems like a simpler approach, with a less complex method to compute the value of the sequels and easier to understand, both for Arundel Partners and for the studios. It requires only a few variables (inflows and costs in this example) and gives the intrinsic value of the project that is being analyzed, not a comparison against similar projects.
Disadvantages of the Discounted Cash Flows
The DCF does not consider right away the option to turn down a movie if it generates a negative NPV; we had to come up with a way to include that in our model. Also, changes in the future inflows or costs will generate volatility. Finally, we need to remember that the DCF method generates more volatility when the cash flows are uncertain in the future. Since in this example we have inflows 4 years in the future and costs 3 years in the future, we have some variability there that can change the output of the valuation when time comes true.
Advantages of Black-Scholes
A project that generates a negative NPV may be

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