Multi-stage Real Options Analysis On R&D Investment

It is essential for firms to do research and development of the new technology and new product. R&D investment can ensure the firm obtaining and keeping competition advantage. Therefore, the R&D project valuation is very important. By the theory of innovations, R&D project has sequential nature. The R&D project investment is not because it produces cash flows instantly,but because it can provide potential investment opportunities. The economic value of an R&D should include the option values associated with various opportunities to alter the course of a project. It considered the commitment to a R&D project as a commitment to multi-stage investments where instead of an immediate cash flow the initial investment only leads to future options. Panayi and Trigeorgis thought R&D project investment as multi-stage compound call.Our discussing bases on continuous real option models and introduce multi-stage real options thinking to R&D. Firstly, the R&D project is divided into two stages including R&D Phase and Commercialization Phase. And project value is obedient to GBM. We apply compound real options evaluating the R&D project investment, and take into account project time. From analysis, we know the R&D option value (critical value) is bigger than commercialization option value (critical value). The last, we expand the two stages to three stages real options model, considering R&D option, patent option, and commercialization option. We focus on influence of patent, point out the patent increases market introduce critical value, and when introduce into market without patent.In a word, this paper develops continuous models of R&D project , and introduce multi-stage real options approach to value it. It takes into account uncertainty in project value, and values research option. patent option and market introduce option.