Question

Please explain this in own words? What these terms mean in business world? (finance)

1) the timing options

2) flexible production

3) the abandonment option

Answer 1

Hi,

Timing option:

This option gives the right in an IR futures to the Short position holder to determine the date on which the underlying needs to be delivered to the long position holder.

Practically we use this option on a Eurodollar future, US treasury note future etc. to lock in the interest rates (for hedging against IR fluctuations). The seller chooses the delivery date as long it fulfils the requirement of the buyer. but he has to pay a margin to enter into the trade and maitain the margin to avoid the event of a pure debit due to drastic market movements.

Flexible Production"

I believe you are referring to FMS (Flexible manufacturing systems).

This was first conceptulized for machining in 1960s by some british guy and implemented in 1969 by Germany followed by Russia & Japan 1972.

It is an automated machine cell consisting of a group of workstations, interconnected with automated material handling & storage systems. This was introduced for optimizing manufacturing cycle time,reducing production costs etc. On the other hand demerits are it is expensive & requires sub stantial preplannning activity.

Abandonment option:

This option gives the right to the parties to withdraw from the contract (without fulfilling any contractual obligations) if they think they are unprofitable. It is an OTC bilateral agreement without any specifc time of expiry, usually these options are used by financial planners & their clients. It is an attractive feature for participants as it protects both the parties financial interest in the event of a project failure or investment fails to get the intended profit.

Example: Suppose Toyota Corp plans to manufacture a Zero gas fuelled car in 2020 and has invested 10 million in it. But it cannot predict the sales which might happen in 2020, so in cases like these it can plan to obtain an abandonment option.

This abandonment option is similar to the put option, suppose by 2020 the sales have gone down then the company can stop the project and sell the machinery at the Fixed price agreed as per the terms of the options. Suppose if the sales have gone up then the company can plan to leave the put option to expire..

Have a good day.

Bala