In today's business environment, traditional capital budgeting methods are no longer adequate to reflect the dynamic world of new economy. The typical project appraisal methods are based on Discounted Cash Flow (DCF)-based measures like Net Present Value (NPV) and Internal Rate of Return (IRR). However, they exhibit weaknesses in dealing with uncertainty, complexity and flexibility. Real options are very powerful method for evaluating project under uncertainty. Real options approach is a method of evaluating project investment decisions in an uncertain business environment.

In the current era of information economy, firms are facing increased uncertainty while taking investment decisions on new economy /technology projects. Such decisions are have a long-term impact on firm's profitability and growth. Usually, this type of uncertainty erodes real investment value when such investment decisions are evaluated using conventional capital budgeting techniques such as Discounted Cash Flow (DCF)-based Net Present Value (NPV) or Internal Rate of Return (IRR) or non-DCF-based methods such as Payback Period or Average Accounting Rate of Return (ARR). Investment decisions based on traditional capital budgeting tools underrate overall returns and focus firm's attention on short-term measures such as immediate cash flows instead of focusing on the future growth and building long-term competitive advantages.

Traditional project appraisal tools help firms in the decision-making process of allocating scarce resources of firms to new investment proposals. Firms are frequently required to make capital investment decisions for new project proposals. These decisions are especially challenging when they involve the commitment of large amount of resources and making any mistakes can be very expensive. Traditional project appraisal tools focus on expected future cash flows generated from initial investment and ability to make future decisions based on it. The typical approaches to capital budgeting are based on DCF-based measures like NPV and IRR.

Projects & Profits Magazine, Project Appraisal, Business Environment, Capital Budgeting Methods, Discounted Cash Flow, Net Present Value, Internal Rate of Return, Accounting Rate of Return, ARR, Capital Budgeting Methods, Knowledge Economy, Decision-Making Process, Information Technology, IT.