MANAGERIAL RISK IN INFORMATION TECHNOLOGY INVESTMENTS: EFFECTS OF FRAMING, NARROW FRAMING AND TIME INCONSISTENT PREFERENCES ON REAL OPTIONS EXERCISE DECISIONS

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Khan, S. (2012). MANAGERIAL RISK IN INFORMATION TECHNOLOGY INVESTMENTS: EFFECTS OF FRAMING, NARROW FRAMING AND TIME INCONSISTENT PREFERENCES ON REAL OPTIONS EXERCISE DECISIONS. Unc Charlotte Electronic Theses And Dissertations.
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Abstract

Real options theory has been advocated as a solution to risky IT investment decisions. IT investments decisions are risky due to uncertainty around future outcomes and the inability of traditional financial measures (like NPV, IRR) to account for inherent managerial flexibility. On the one hand, it is argued that real options analysis captures and formalizes managers' intuition, hence creating a disciplined decision making process. On the other hand, the intuitive valuation of the options is criticized due to the prevalent effects of various judgmental biases. In this dissertation, we explore three potential biases that can affect the real option exercise decisions in terms of either suboptimal option exercise choice due to framing and narrow framing effects, or suboptimal exercise time due to time inconsistent preferences of IT managers. We test for framing effects in individual IT project decisions and narrow framing effects in IT portfolio decisions, by conducting an online experiment among top and mid-level IT professionals. The results show that IT professionals are prone to framing real options at exercise time and simplifying complicated real option exercise decisions by isolating them in IT portfolios. Further, their decisions are influenced by their personal risk preferences.We analyze the effect of time-inconsistent preferences of present-biased managers on the exercise time of real growth and abandonment options and the realized values using a discrete time option valuation model. The results show that present-biased managers are more likely to exercise growth options early when the net payoffs are low, the growth option payoffs have high volatility, and the risk free discount rate is small. Also, present-biased managers are more likely to exercise abandonment option late when the net payoffs from continuing the project are high, salvage value of the project is low, and the rate of change in the salvage value over the period of time is low. In addition, present biased managers are more likely to exercise a growth option early in its life when the project is performing well. We provide implications for practice and IT governance.

Details
Author

Khan, Sarah

Title

MANAGERIAL RISK IN INFORMATION TECHNOLOGY INVESTMENTS: EFFECTS OF FRAMING, NARROW FRAMING AND TIME INCONSISTENT PREFERENCES ON REAL OPTIONS EXERCISE DECISIONS

Physical Description

1 online resource (252 pages) : PDF

Date

2012

Degree Granting Institution

University of North Carolina at Charlotte

Abstract

Real options theory has been advocated as a solution to risky IT investment decisions. IT investments decisions are risky due to uncertainty around future outcomes and the inability of traditional financial measures (like NPV, IRR) to account for inherent managerial flexibility. On the one hand, it is argued that real options analysis captures and formalizes managers' intuition, hence creating a disciplined decision making process. On the other hand, the intuitive valuation of the options is criticized due to the prevalent effects of various judgmental biases. In this dissertation, we explore three potential biases that can affect the real option exercise decisions in terms of either suboptimal option exercise choice due to framing and narrow framing effects, or suboptimal exercise time due to time inconsistent preferences of IT managers. We test for framing effects in individual IT project decisions and narrow framing effects in IT portfolio decisions, by conducting an online experiment among top and mid-level IT professionals. The results show that IT professionals are prone to framing real options at exercise time and simplifying complicated real option exercise decisions by isolating them in IT portfolios. Further, their decisions are influenced by their personal risk preferences.We analyze the effect of time-inconsistent preferences of present-biased managers on the exercise time of real growth and abandonment options and the realized values using a discrete time option valuation model. The results show that present-biased managers are more likely to exercise growth options early when the net payoffs are low, the growth option payoffs have high volatility, and the risk free discount rate is small. Also, present-biased managers are more likely to exercise abandonment option late when the net payoffs from continuing the project are high, salvage value of the project is low, and the rate of change in the salvage value over the period of time is low. In addition, present biased managers are more likely to exercise a growth option early in its life when the project is performing well. We provide implications for practice and IT governance.

Genre

doctoral dissertations

Subjects--Topics

Management
Information technology

Degree

Ph.D.

Keywords

Managerial Risk
Project Management
Real Options

Subject Area

Information Technology

Advisor(s)

Khouja, Moutaz
Kumar, Ram

Committee Members

Zhao, Kexin
Park, Sungjune
Flowers, Claudia

Degree Note

Thesis (Ph.D.)--University of North Carolina at Charlotte, 2012.

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Rights Holder Information

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Identifier

Khan_uncc_0694D_10290

Permalink

http://hdl.handle.net/20.500.13093/etd:153