Arundel Partners: the Sequel Project

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Arundel Partners: The Sequel Project

The maximum per-film price for the sequel rights that Arundel Partners should pay is $5.12M.

If Arundel Partners were to use the traditional DCF methods to find the value of the sequel rights, the NPV would be -$8.42M loss per-film (see Appendix 1).

Calculation Details

We assume that Arundel Partners will purchase a portfolio of films similar to one used in the analysis. The average hypothetical net inflow of the sequel ($21.57M) is used to figure out the value of the state variable for the real options model. The state variable is the average hypothetical net inflow of the sequel, discounted using a WACC of 12.36% back to 1989. Discounting back to 1989 is important because this is
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Building the Binomial Tree for Asset Values
The binomial model is used to see how the state variable evolves over time, specifically over a time period of 12 months (see Exhibit 1). The maturity or expiration date of the sequel rights option is set for 12 months. Within the first year, Arundel Partners will know whether it will want to exercise the sequel rights. We build the binomial tree for the net inflow values using the Cox-Ingersoll-Ross model. This approach approximates a lognormal distribution for the asset values (net inflow values). We assume that continuously compounded returns on the asset are normally distributed and volatility remains constant. We use the expiration date as one year from the purchase of the sequel rights and the time interval of 1/12 (1 month). We use the standard deviation on the one year return of the portfolio as an estimate

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