Modeling a Multinational Firm’s Manufacturing Network as a Portfolio of Options

Abstract

To fill the gaps in research on the portfolios of real options, I adopt analytical modeling and simulation that allows complex and interacting relationships in parameters. I employ two stochastic variable models to examine how a firm’s strategic decision is shaped in the perspective of portfolios of options with the consideration of production cost or market demand uncertainty and how the valuation of portfolios changes with both positive and negative nation-level correlations, switching/coordination costs, and capacity constraint of manufacturing facilities. This study brings fruitful insights to the understanding of the effect of production cost or market fluctuations on switch or growth and contraction options and can become the forefront of real options research. By recognizing the effect of market uncertainty on switching option value in the presence of capacity constraint, I also construct a three stochastic variable model to examine how both market uncertainty and production cost uncertainty affect the value of the options embedded in a multinational firm’s portfolio of manufacturing facilities located in different countries. This research yields a more complete understanding of a multinational firm’s international activities through lens of portfolios of real options and accentuates a broader portfolio perspective that augments the existing Internationalization theory and Internalization theory. In addition, this work extends the application of Internationalization theory to embrace switching opportunities across borders, and thus widens the research subject from one focal location to portfolios of locations in the context of global supply chain. Moreover, the results shed light on how growth and switching options interact in the presence of different types of uncertainty.