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Abstract
The wireless industry is one of the most capital intensive high-technology industries. This paper applies real options
techniques to estimate investments under uncertainty in two new ventures: (a) deferral of the expansion from 2.5G to 3G
networks; and (b) expansion of a 2.5G network using Wi-Fi as an alternative technology. The cases are examined and
analyzed both qualitatively and quantitatively, using realistic assumptions and parameters. Investment cost, number of
subscribers, pricing of services, and risk are at the core of investment decision processing. In both cases, sensitivity analysis
of the value of the (real) option considering the above key parameters was conducted, to extrapolate useful findings that
should be taken into consideration by the decision makers in wireless companies.
r 2007 Elsevier Ltd. All rights reserved.
Keywords: Wireless networks; 3G; GSM; UMTS; Wi-Fi; Real options; Investment decisions
1. Introduction
The cellular industry has experienced unprecedented growth in the last 25 years and is still growing. In the
United States, service providers migrated from AMPS (advance mobile phone system) to TDMA (time
division multiple access) and CDMA (code division multiple access), which became the two most popular
technological choices. In the meantime, GSM (global system for mobile communications—the European
variant of second generation (2G) systems, became the most widely adopted mobile system in the world. 2G
networks opened the door for offering new data products (e.g., browsing, email, and interconnection to
private networks) and high-quality voice services.
With gradual improvements to 2G systems, two competing third generation technologies (3G) emerged: the
UMTS (universal mobile telephone system) (3GPP, UMTS Forum, UMTS World) and the CDMA2000
(Code Division Multiple Access 2000) (3GPP2, CDG, Qualcomm). As 3G mobile systems, they both promised
to offer improved voice and broadband access to users. The challenge of providing broadband Internet
services and extending coverage areas, while improving quality of service, remains a challenge for operators
even today.
Corresponding author. Tel.: +1 201 216 8279; fax: +1 201 216 5385.
E-mail addresses: fharmant@stevens.edu (F.C. Harmantzis), vtangutu@stevens.edu (V.P. Tanguturi).
0308-5961/$ - see front matter r 2007 Elsevier Ltd. All rights reserved.
doi:10.1016/j.telpol.2006.02.005
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Increasing demand for high-speed wireless data services, subscribers’ demand for integrated solutions (voice
and data) and higher mobility, coupled with the operators’ need to improve on average revenue per user
(ARPU) and provide high-quality wireless services, caused operators to migrate to 3G systems. These systems
required additional spectra, resulting in severe competition among service providers. Spectrum auctions for
3G networks started to take place at the end of 2000. In Europe, the first spectrum auctions took place in the
United Kingdom (Klemperer, 2002a). Various applications of policy attempted to maximize economic rents
from bidders (network operators) and governments across Europe raised revenues ranging from 20 to 650
Euros per capita in Switzerland and the United Kingdom, respectively (Klemperer, 2002a). This prohibited
operators from rolling out networks as scheduled. Despite the hype surrounding 3G, operators have not been
able to develop a business model that will attract subscribers and garner high revenues. This is evident from
the fact that, at the end of the third quarter of 2005, there were only 37.9 million UMTS subscribers in the
world (GSM World).
Operators are faced with challenges regarding the cost of deploying new infrastructure. How and when
should new applications that will enhance the market be released? Several studies (Klemperer, 2002b; Mansell,
Samarajiva, & Mahan, 2002; Ure, 2002) provide enough pointers about what went wrong in European 3G
auctions. Bidders knew about the risks involved in bidding for 3G licenses. It was also pointed out that the
telecom managers overestimated (hence, overbid) the value of the 3G license (Klemperer, 2002b; Mansell
et al., 2002; Ure, 2002). Furthermore, it was shown that the complexity of rules, opacity of information, lack
of trust and understanding among strong bidders and concerns about stock market perceptions were some of
the key contributors to the outcome of the European 3G auctions.
In the wireless industry, a high percentage of the invested capital goes to network infrastructure. Operators
must evolve their infrastructure in a cost effective manner, while meeting forecasted demand due to subscriber
growth.
In order for operators to gain markets, they need to exercise flexibility in investment decision making, while
taking into consideration uncertainty, which is inherent in high-tech industries and modern capital-market
economies. For example, an operator can choose a small scale deployment test to initially gauge the market
perception and then either opt for large scale deployments (as encouraging information arrives from economy/
markets), or abandon the project (if the investment turns out to be bad).
This paper applies real options methodology to the investment-making process of two wireless companies.
The objective of this study is to highlight the strengths of applying the real options valuation approach as a
decision-making tool in expanding or delaying 3G network deployments. Real option methods are in vogue
because they provide more accurate valuations in different areas, e.g., equity valuation, mining projects, etc.
(Alleman & Noam, 1999; Damodaran, 2002; Mun, 2002; Schwartz & Trigeorgis, 2001; Trigeorgis, 1996). The
outcome of real options analysis is heavily dependent on the input parameters and the assumptions made, just
as in traditional discounted cash flow (DCF) analysis. In this paper, the assumptions are realistic and based on
norms widely accepted by the industry and conversations held with executives and technical staff.
The structure of the paper is as follows: in Section 2, the basic theoretical work of the investment decision
process (discount cash flow analysis, financial and real options), as well as examples from the literature, where
real options have been proposed for strategic and technical problems in the telecommunications industry, are
reviewed. In Section 3, two hypothetical cases regarding the wireless industry are studied and real options
theory is applied to both cases. Finally, Section 4 summarizes the results and concludes. It was found that
investment cost and uncertainty about subscriber growth are the key parameters in the analysis. Furthermore,
volatility plays a key role in the valuation of the two cases.
2. Background
Traditional DCF analysis values an investment in present value terms, assuming that future cash flows are
known and discounted at a risk-adjusted factor, e.g., the weighted average cost of capital (WACC) of the
company (Damodaran, 2002).
For example, consider a project that has a life of five years, and an initial investment cost K. Initial
investments in projects generate cash flows during the project life cycles, which are discounted at a respective
discount rate. To value an asset, the net present value (NPV) is needed. The NPV is the difference between the
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present value of the future cash flows and the initial investment cost. Therefore, the NPV today is given as
follows:
X
5
NPV ¼ F n ðP=F ; i%; nÞ K ¼ V K; (1)
n¼1
where Fn is the expected cash flow at the end of the nth period and i is the discount rate per period (in this
study, it is assumed that the discount rate remains constant during the life of the project). The project should
commence if V4K, i.e., if it has a positive NPV, and should be abandoned if VoK.
An option is a contract that gives the buyer the right, but not the obligation, to buy or sell an underlying
asset, at a specific price, on a certain future date (Hull, 2003). There are basically two types of options: call
options and put options. A call (put) option gives the holder the right, but not the obligation, to buy (sell) the
underlying asset at a certain date for a certain price. That fixed price in the contract is known as the exercise or
strike price; the date is known as the expiration date or maturity. American options can be exercised at any
time up to the expiration date, whereas European options can be exercised only on the expiration date itself.
If K is the strike price and ST is the final price of the underlying asset, the payoff from a long position in a
European call option is: maxðS T K; 0Þ. The payoff to the holder of a long position in a European put option
is maxðK S T ; 0Þ. The payoffs of the different positions are shown in Fig. 1.
In order to price options, the Black–Scholes–Merton partial differential equation (PDE) is used. There are
several ways to solve this PDE: numerically (lattices), in discrete-time via binomial/trinomial trees, or via the
Black–Scholes formula, if it is a European option (Black & Scholes, 1973).
Real options theory is a methodological approach within which an investment can be analyzed while
factoring in uncertainty and flexibility. Real options have been applied already in valuations in different
industries, e.g., pharmaceutical, energy, mining, telecommunications, information technology, etc. (Mun,
2002; Schwartz & Trigeorgis, 2001; Trigeorgis, 1996). In the telecommunications sector, a real options
framework has been proposed for several investment decisions: equity and firm valuation, cost analysis,
forecast bandwidth demand, etc. (Alleman, 2002; Alleman & Noam, 1999; Alleman & Rappoport, 2002;
Athwal, Harmantzis, & Tanguturi, 2005; Harmantzis & Tanguturi, 2004a, b; Tanguturi & Harmantzis, 2005).
The telecommunications sector has historically been a domain where high-cost technological investments
have been made; in addition to that, it has become a highly volatile sector, due to increased competition,
deregulation, etc. Therefore, it is highly suitable for applying real options in valuations. Valuing a project that
ST K ST
K
Long Put
Long Call
Table 1
Mapping between investment opportunities and financial (stock) options
requires a significant irreversible investment up-front cost to develop networking equipment or a telecom
service is a risky decision due to inherent uncertainty in the field. Traditional NPV analysis proves to be
limited for a number of reasons, e.g., lack of capturing uncertainty and lack of changing the course of action
when new information becomes available. The real options framework has proven to be suitable for
valuations, assuming that the models are calibrated to realistic (e.g., market) conditions.
Pricing techniques developed for financial options can generally be mapped to investment options, as shown
in Table 1. Table 1 helps managers identify the parameters in financial options and map them to real options
in order to model the investment problem. For example, projects require capital investment, in order for
products to be bought or built. This is analogous to exercising an option in which the amount invested is
equivalent to the exercise price K, and the present value of the asset is the current stock price S0. The length of
time the firm can wait is the time of expiration T and the riskiness of the project is reflected in the volatility
(standard deviation) of the asset s. The time value of the money is given by the risk-free rate rf.
Next, two of the real options used here in the analysis are discussed: the option to defer (delay) and the option
to expand.
The option to defer (delay) refers to delaying an investment decision for a certain period of time. In this
paper, a wireless company that has purchased the spectrum required to deploy 3G networks is studied. The
firm has exclusive rights to the license, which gives it the option of deferring deployment. Taking up the project
today might have a negative NPV. By exercising the option to defer, the company can commence at a time that
maximizes the project value. In other words, the value of waiting can be viewed as a call option on the project,
with an exercise price that equals the investment cost. In this case, the uncertainty is due to the number of
subscribers adopting the new technology and to market conditions in general.
The option to expand provides the ability and the right to expand into different market segments. In this
paper, a 2.5G network operator has the right to expand its network from 2.5G to an integrated network, i.e., a
2.5G network with Wireless LANs (WLANs). This allows the company to be competitive, hold onto its
existing subscriber base, and attract new subscribers.
delay given by
1
Divident Yield or Annual Cost of Delay ðyÞ ¼ , (5)
T
and N(d) is the cumulative normal density function.
It is not uncommon to use the Black–Scholes formula, as an approximation, in valuations of real options.
Amram and Kulatilaka (1999) explain the use of the Black–Scholes model in one of the cases analyzed in their
work. Bowman and Moskowitz (2001), as well as Benninga and Tolkowsky (2002) apply Black–Scholes in
valuing R&D investments in the pharmaceutical industry. Finally, Basili and Fontini (2003) apply the same
model to value the aggregate option value of the UK 3G telecom license.
In the last decade, the telecommunications industry has experienced high volatility, as evidenced by the
Internet bubble and the telecom crash. In this context several cases exist in which real options have been
proposed in the wider area of telecommunications, e.g., telephony, broadband, Internet, cable, wireless, etc.
(Alleman & Noam, 1999).
Alleman (2002) shows how real options theory can be helpful to the telecommunication industry for issues
related to strategic evaluation, estimation and cost modeling. Alleman and Rappoport (2002) use real options
analysis in an attempt to quantify regulation issues, demonstrating the impact of regulatory constraints on
cash flows, and therefore in the investment valuation process.
Economides (1999) studied the economic principles on which cost calculations should be based. d’Halluin,
Forsyth, and Vetzal (2002a, 2002b) studied the risks faced in the bandwidth market using real options to
determine optimal times of investing to increase network capacity. In a more recent paper, the same authors
apply options methodology to value wireless network capacity (d’Halluin et al., 2002a, 2002b).
Herbst and Walz (2001) adopt real options to analyze the value of auctioned UMTS-licenses in Germany,
the largest European market. Their model is based on the option to abandon and the growth option.
Edelmann, Kylaheiko, Laaksonen, and Sandstorm (2002) use real options to shed light on the complicated
issues of strategic alternatives in the telecommunications industry. Kulatilaka (2001) explains the current situation
in 3G deployment with the help of fundamental critical management questions such as what, why, when and how
the real options approach helps in the decision-making process in a comparative manner. Kulatilaka and Lin
(2004) find the investment threshold at which the firms are indifferent between investing immediately or postponing
the investment. Their analysis shows that the licensing fee plays an important role in technology adoption. High
license fees yield to the development of incompatible technologies; low fees to single standard adoption.
Finally, Paxson and Pinto (2004) examine the timing issue of a Portuguese telecom carrier in 3G investment,
using real competition option models. They showed that although traditional NPV calculations point to an
immediate investment and entry of all the players in the market, this is not the case. Their options models
suggest a delay of entry for the follower.
In the current section the strengths of the real options valuation approach as a decision-making tool are
highlighted, by considering two cases of hypothetical wireless companies. Company A has the option to defer
expansion of 2.5G to 3G wireless networks for a predetermined time period. Company B has the option to
expand its 2.5G network using alternative technologies, such as WLANs. Several cellular service providers have
shown interest in WLAN deployment, since they are hesitant to invest in 3G networks e.g., SK Telecom,
T-Mobile, etc. The assumptions made in both cases are sound and realistic, both technologically and financially.
In this case, a company has already acquired the required spectrum to deploy 3G wireless networks and has
the exclusive rights to provide services.
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Table 2
Company with option to defer: investment cost projections
Table 3
Company with option to defer: revenue projection for 3G
Discounting future cash flows with a WACC of 10.8%, the present value of future cash flows S0 is
calculated to be $53.4 million. From Eq. (1), the static NPV (no option) of the project is
Static NPV ðNo optionÞ ¼ S0 K ¼ $221:1 million. (6)
Clearly, the project has a negative NPV and therefore should not be undertaken.
Within five years the company must make a decision whether or not to invest. The goal is to determine the
value of the option to delay the investment (provided by the license). Knowing the option’s parameters—the
present value of future cash flows is $53.4 million, the present value of investment costs is $274.5 million
(strike price), the volatility is 37.68%, the risk-free rate is 3.64%, and the expiration time is five years—the
value of the option to delay developing the 3G network is calculated to be $0.027 million using Black–Scholes
(2). Such a low value was to be expected, since this call option is ‘‘deeply out of money’’ i.e., the underlying
price is much less than the strike price. The (positive) value of the option to delay slightly improves the static
(no option) figure:
NPV ðwith optionÞ ¼ Static NPV þ Value of the option to delay ¼ $221:07 million. (7)
Therefore, even with the value of the option to delay, the project has a negative present value of $221.07
million. The option to delay is not of great value for this company.
The effect of the parameters that can increase the value of the option to defer and turn this project into one
with a positive NPV is worth investigation. The real options toolkit can help management identify different
scenarios and answer ‘‘what needs to be true’’ in the particular case for the investment to become attractive.
For example, the value of the option to delay increases with an increase in the subscriber base.
$100
Call Value
$50 NPV (No Option)
$0
−$200
−$250
−$300
−$350
−$400
−$450
$100 $150 $200 $250 $300 $350 $400 $450 $500
Investment Cost (K) (In Millions)
Fig. 3 shows how changes in the volatility (uncertainty) affect the option value and therefore the decisions.
The volatility is varied from 10% to 100%; remaining parameters are unchanged.
While DCF does not incorporate risk, i.e., NPV1 remains constant, the value of the option, and therefore
the NPV2, increases with an increase in volatility. However, even a 100% annual volatility cannot make the
project attractive.
Finally, the effect of the number of clients subscribing to new 3G services on the valuation process is
studied. Subscribers, who contribute to the magnitude and volatility of future revenues, are key players in the
decision process. In this case, only the revenue generated from new 3G subscribers4 is considered. In Fig. 4, the
effect of changes in cash flows due to changes in the subscriber base is illustrated. The initial subscriber base is
varied from two-fold to 13-fold; all other parameters remain unchanged.
As expected, both NPV1 and NPV2 increase as the number of 3G subscribers increases. The option value
also increases with an increase in the number of subscribers. As the current price of the underlying asset
increases while the strike price remains constant, it is found that NPV2 first becomes positive when there is a
10-fold increase in the subscriber base. Below this point, both NPV1 and NPV2 are negative, because the
investment cost is high and the operator is not able to generate enough revenue. The project is not worth
exercising. Thus, it is up to the management team of the wireless company to judge if a 10-fold increase in the
number of 3G clients in five years is a realistic assumption, given the prevailing market conditions.
3.2. Case B: option to expand a 2.5G network to WLANs (as an alternative to 3G)
3G technology has promised to provide data rates up to 384 Kbps with a maximum speed of 120 Km/h.
There has been a delay in the rollout of 3G networks—3G spectrum auctions have not even taken place in the
United States (as of Summer 2006)—even though researchers have long proposed operators integrate their
2.5G networks with WLANs to provide 3G-like services to their subscriber base (Salkintzis, Fors, &
Pazhyannur, 2002). WLAN technology is simpler, cheaper, and easier to deploy. WLANs offer data rates
between 11 and 54 Mbps, compared to the 171 Kbps offered by GPRS networks (Salkintzis et al., 2002).
4
Subscribers who are first time buyers subscribing to new 3G services or switching from a different cellular provider. This assumption is
part of a conservative analysis.
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$100
Call Value
$50 NPV (No Option)
$0
NPV and Call Value (In Millions) S0 = $53 40m
−$50
K = $274.46m
−$100 T = 5 Years
rf = 3.64%
−$150
−$200
−$250
−$300
−$350
−$400
−$450
10 20 30 40 50 60 70 80 90 100
Volatility (%)
$100
NPV (No Option)
$50 NPV (With Option)
$0 K = $274.46m
T = 5 Years
−$50 rf = 3.64%
σ = 37.68%
−$100
NPV (In Millions)
−$150
−$200
−$250
−$300
−$350
−$400
−$450
200 400 600 800 1000 1200 1400
Number of Subscribers (In Thousands)
Integration can be a valuable option for network operators who are currently at 2.5G, because they already
have a data subscriber base. By offering the new integrated service, they can provide enhanced services and
hold onto their subscriber base. They could also generate additional revenue by attracting customers to their
WLAN network.
Users have a clear advantage as they will have the choice of transmitting their data over two different
networks. With a 2.5G network, they can obtain wider transmission coverage but lower data rates, whereas
with WLANs, subscribers get higher data rates but a smaller coverage area. Deploying WLANs in strategic
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locations such as coffee shops, shopping outlets, and financial centers in major cities and airports, allows the
operator to cover vital areas with high-speed data services.
This paper advocates the deployment of WLANs as a complement to 2.5G networks. Instead of waiting,
operators can integrate WLANs with their existing 2.5G networks and provide 3G-like services.
To proceed with the analysis of the investment, the pricing model proposed by Harmantzis et al., is used for
the integrated network (Yaipairoj, Harmantzis, & Gunasekaran, 2005). The model calculates the additional
revenue generated due to integration. First, the NPV of the integration project, i.e., integration of WLANs
with 2.5G network, is calculated. Second, the real options method is used to value the option. The proposed
approach is based on the option to expand.
Table 4
Company with option to expand: investment cost projections
percentage of customers using the GPRS network and the percentage of customers using the Wi-Fi network.
In this paper, the additional revenue made per connection is calculated.6
Figures in Table 5 are calculated on the assumption that each subscriber makes 30 connections per year (this
is a conservative estimate). Each connection contributes $1.30, due to the pricing model. (The reader may refer
to Appendix C for detailed calculations.)
The NPV of the revenues for Scenario A, S01, is calculated to be $1.23 million, discounting with a WACC of
10.8% for the time of the project. The (static) net present value NPV1 for the project turns out to be negative,
i.e., $(1.232.1) ¼ $0.87 million.
The company has the option to expand to an integrated network (GPRS and WLAN) in downtown
Manhattan any time within the next three years. From the Black–Scholes option pricing model, the option to
expand by integrating GPRS and Wi-Fi is calculated to be $0.09 million. Such a small option value is unable
to make the project attractive. The NPV with option NPV2 is still negative, i.e., $0.78 million.
From the valuation of both DCF and real options, the management of the firm sees that it is not profitable
to integrate the network when the current type of subscriber is the only revenue stream generator. If the firm
thinks it can only retain the existing type of customers and not attract new types of customers, then the
decision should be negative, and the project should be reconsidered.
Table 5
Company with option to expand: revenue projection for Scenario A
Table 6
Company with option to expand: revenue projection for Scenario B
$3.5
NPV (No Option)
$3 NPV (With Option)
S02 = $2.47m
$2.5 T = 3 Years
σ = 31.225%
$2 rf = 2.62%
NPV (In Millions)
$1.5
$1.0
$0.5
$0
−$0.5
−$1
$1 $1.2 $1.4 $1.6 $1.8 $2 $2.2 $2.4 $2.6 $2.8 $3
Investment Cost (K) (In Millions)
therefore should be exercised. It is found that exercising the option is not viable for an investment cost
threshold limit of $2.924 million—the price of the option is zero for that strike.
The effect of the volatility parameter on the real options approach (DCF is unaffected by the risk factor) is
next studied. Fig. 6 shows the volatility with respect to the NPV of the project with and without the option to
expand. The volatility is varied from 10% to 100% (annually).
From Fig. 6, it may be observed that the NPV2 increases linearly with increases in volatility. Therefore, the
value of the option (NPV2NPV1) also increases linearly with respect to volatility. It can be observed that the
more volatile the industry, the more valuable the option to expand; volatility at lower percentages does not
have an impact (it is still valuable).
Finally, the effect of Wi-Fi subscribers, i.e., newly attracted clients, on the valuation of the project is
studied. This parameter directly affects S02, since future cash flows are changed.
From Fig. 7, both NPV1 and NPV2 increase with the number of Wi-Fi subscribers. The value of the option also
increases with the call option. Should the Wi-Fi subscriber base hit 4000, the NPV1 plus the value of the option
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$3.5
S02 = $2.47m NPV (No Option)
K = $2.10m NPV (With Option)
$3
T = 3 Years
rf = 2.62%
$2.5
$2
NPV (In Millions)
$1.5
$1.0
$0.5
$0
−$0.5
−$1
10 20 30 40 50 60 70 80 90 100
Volatility (%)
$3.5
NPV (No Option)
$3 NPV (With Option)
K = $2.10m
$2.5 T = 3 Years
σ = 31.225%
$2 rf = 2.62%
NPV (In Millions)
$1.5
$1.0
$0.5
$0
−$0.5
−$1
0 200 400 600 800 1000 1200 1400 1600
Number of Wi-Fi Subscribers (In Thousands)
becomes positive for the first time. If there are fewer than 4000 Wi-Fi subscribers, both NPV1 and NPV2 are negative.
In this region, the project does not look promising, given its high investment cost and weak revenue stream.
This research was motivated by the fact that the path to 3G is dependent not only on the fee paid to acquire
the spectrum license, but on key factors such as infrastructure costs, number of subscribers, and uncertainty
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around the market conditions and regulatory policies in future years. Real options theory provides an
appropriate framework to study investment decisions in the wireless industry.
Hypothetical cases regarding two different companies were presented and analyzed in the paper. In the first
case, Company A owns the spectrum license for a 3G network but considers deferring expansion for five years,
until favorable market conditions develop (e.g., the company bought the license prior a market crash or an
economic recession). In the second case, Company B considers alternative technologies to 3G. More
specifically, the company considers expanding its current 2.5G network by using WLANs.
For Company A, it is found that an expansion of the current network to 3G is not a profitable solution, as
both the investment cost of rolling out the 3G network and uncertainty around the subscribers are high. The
value of the option is low, given the prevailing market conditions and the high investment cost. Even in
situations of high volatility that favor the value of the option, the recommendations made to the company did
not alter (for realistic volatility levels). Uncertainty regarding the number of subscribers is a major issue in this
case. The analysis suggests that when only revenue from the new 3G subscribers is considered, expansion is not
a favorable choice. The NPV of the project with the option becomes positive for the first time when there is a
10-fold increase in the number of subscribers.
Company B considers integrating GPRS with WLANs, as an alternative technology. It is demonstrated that
such an investment is not profitable, when the operator considers revenue only from the subscribers of the
integrated network. The option to expand is more valuable when the operator is able to attract new
subscribers to its Wi-Fi network as well as its integrated network subscribers. Besides the number of
subscribers, investment cost and volatility also play important roles in this valuation. The firm could protect
its investment by choosing an alternative technology that is cheaper compared to the investment required by
3G. Expanding the current 2.5G network through integration provides a platform for offering new data-
centric services; the firm offers 3G-like services while holding onto its subscribers.
Although real options valuation is becoming popular, analysts agree that the values of the input parameters
to the model are the catalysts for the final decision, as there is a general consensus around the methodology
that should be followed. Approximating the values of the option parameters is challenging, due to the
proprietary nature of this information. In the case considered, the assumptions made are realistic,
technologically solid, and bottom-up driven (readers should refer to the appendices for derivations such as
costing, sizing of network, pricing of wireless services, etc.). By emphasizing technological aspects in addition
to using well-known methods of pricing real options, some light has hopefully been shed on the decisions
wireless operators need to make in transitioning to 3G technology.
Acknowledgements
The authors would like to thank Prof. J. Alleman and Prof L. Trigeorgis for the fruitful discussions on real
options. Dr. A. Curtis, Dr. K. Ryan and Dr. C. Smith, all at Stevens, for their valuable insights on technology
and telecommunications management issues. Finally, the editors and anonymous reviewers as well as the
participants at the following conferences, where the paper was presented at its earlier stages: 15th Biennial
Conference of International Telecommunications Society (ITS 2004, Berlin, Sept. 2004), 31st Annual
Conference of Northeast Business and Economics Association (NBEA 2004, Yeshiva University, New York,
Sept. 2004), and EURO XX Conference on Operational Research (Rhodes, Greece, July 2004).
Let us define the following variables: E b is the energy per bit, N 0 the noise power spectral density
Power per radio channel ¼ E b n Data Rate, (A.1)
S E b n Data Rate
Signaltonoise ratio : ¼ . (A.4)
N N 0 n Channel Bandwidth
The spreading factor (SF) is defined as ratio of the chip rate to the Data Rate,
Data Rate 1
. (A.5)
Chip Rate SF
Since, Chip RateEChannel Bandwidth, the signal-to-noise ratio is given by
S
¼ ðE b =N 0 Þ n ð1=SF Þ. (A.6)
N
X users per RF channel pair leads to ðX 1Þ interferes. Hence,
S S 1
¼ n ¼ . (A.7)
N S ðX 1Þ ðX 1Þ
For X large,
S 1
. (A.8)
N X
Equating the two expressions (A.6) and (A.8) for signal-to-noise ratio,
1 Eb n 1
. (A.9)
X N 0 SF
Consider the number of users per RF pair to be X.
Thus, an approximate expression for capacity is
X ðSF Þ=ðE b =N 0 Þ. (A.10)
In order to determine cell capacity, the SF is considered to be 128 and the energy per bit to noise ratio
E b =N 0 ¼ 6 db or 4 (gain, from Decibel Table).
From Eq. (A.10), the number of users per RF channel pair equals to be 32.
Let us assume that the operator has total spectrum of 25 MHz, which is equally divided for uplink and
downlink channels. Also, a single UMTS RF channel equals 5 MHz. Therefore, total number of RF channel
pair per cell: 12:5=5 MHz ¼ 2:5 2. Hence, 2 RF channel pair per cell can exist. In this case, the wireless
operator covers a geographic area of 1250 square miles with 512 cell site. Number of users per RF
channel ¼ 32. Number of users per Two RF channels ¼ 64. Considering a three sectored cell site, total
number of users in a cell site ¼ 192. Therefore, total subscribers in 512 cell sites ¼ 98,310. The theoretical
estimate for the number of subscribers that the system can serve at a time is 98,310.
References