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Beyond BS – Application to R&D Decision Making

Beyond BS – Application to R&D Decision Making. Jonathan D. Linton Power Corporation Professor for the Management of Technological Enterprises University of Ottawa Linton@telfer.uottawa.ca. Most people think…. But actually:.

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Beyond BS – Application to R&D Decision Making

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  1. Beyond BS – Application to R&D Decision Making Jonathan D. Linton Power Corporation Professor for the Management of Technological Enterprises University of Ottawa Linton@telfer.uottawa.ca

  2. Most people think…

  3. But actually: The Black-Scholes formula gives the current value of a European call option, C(St), as: C(St)=StN(d1)-exp{-rt}EN(d2) where d1=[ln(St/E) + (r+s2/2)t]/ssqrt(t) and d2=d1-sqrt(t)

  4. Challenges • Finding publically traded stock that is identical to R&D project under consideration. • Determining current market value of R&D

  5. Best way to address these challenges is to avoid them…

  6. Determine R&D Value Instead of Cost See: DH Goldenberg and JD Linton, Energy Risk, January 2006

  7. Data from US Military R&D Procurement Contract Reports (Casault, Groen, Linton, 2011, AAAS Annual Meeting)

  8. Top 100 R&D Intensive Firms S&P Small Cap (Casault, Groen, Linton, 2011, Working paper)

  9. BS is not the Best • BS provides better information than traditional capital budgeting (NPV) • Cauchy is better Gaussian (BS) due to thick tales • There is still room for improvement, however

  10. Beyond BS – Onto Exotics • Compound options – modelling patents –present value of dames/patent cost ratio should be 55.55 times or greater (Goldenberg and Linton, 2011, under review) • Substantial differences between managing projects versus portfolio of projects (Chen and Linton, in-progress) • Max-Min option – suggests that competing research projects should be managed dynamically, de-risked early, and opportunities to move assets between competing projects should be identified and carefully managed (Goldenberg and Linton, in-progress).

  11. Thank you for your time…any question or comments Jonathan D. Linton University of Ottawa Linton@telfer.uottawa.ca

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