NEWSWIRE - July 30, 2001
Topic: Value Maximization, Capital Budgeting and Real Options
Source: "Oil Giants Struggle to Spend Profits Amid Shortages of Exploration
Sites," by Christopher Cooper and Thaddeus Herrick, Wall Street Journal,
Monday, July 30, 2001, page A1
Synopsis of Article: Royal Dutch/Shell Group is sitting on more than
$11 billion in cash and has generated profits of approximately $1.5 million
per hour in its extremely successful first quarter. This leads to an interesting
question, what should Royal Dutch/Shell do with all of its cash? The article
discusses the decision by Royal Dutch/Shell and several other large oil companies
to invest in a public works project to harvest water, electricity, and petrochemicals
in Saudi Arabia. The project is outside the core business of the oil companies
and appears to have optimistic returns projections. The article provides an
opportunity to discuss free cash flow, shareholder value maximization, agency
issues, and real options.
Questions:
- What options does Royal Dutch/Shell have for spending
its cash?
- Why would managers at Royal Dutch/Shell and the other
oil companies invest it a project that may not earn the
cost of capital?
- What are real options, and how might they relate to the
value of this project?
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