Revisiting corporate growth options in the presence of state-dependent cashflow risk

Given a non-trivial market price of risk, we study the impact of state-dependent cashflow risk on the optimal investment policy and on the ensuing value of an unlevered firm that holds the option of scaling up cashflows from its assets in place upon incurring an irreversible cost. The firm’s investment decision and value are studied as a function of the market price of risk and of the degree of state dependence in cashflow risk.

► We consider an unlevered firm whose cashflow volatility rises as cashflows fall.
► We revisit stock valuation and optimal investment in growing the assets in place.
► Growth options keep inflating the cost of capital.