Options Value in R&DOptions Value in R&D

Gregory L. Hamm, PhDGreg Hamm and Associates

933 Taylor AvenueAlameda, CA 94501

Phone: 510-918-2016email: greghamm@attbi.com

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Definitions of options varyDefinitions of options vary

Presented in white paper - Technologies that do not enter under the most likely scenario, but may enter under others

Common - Something you can do Finance (call) - Right but not the obligation to buy

a security at a fixed price on a future date Real Options Valuation - Flexibility to adopt

future actions after learning

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The practice of Real Options Valuation has a The practice of Real Options Valuation has a common set of activitiescommon set of activities

Identify uncertainty (volatility of underlying asset(s) or other expression)

Define the learning process Define the flexibility available Calculate outcomes Price the outcomes (replicating portfolio, risk

neutral probabilities, discount rates) Calculate expected value

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The white paper suggests an expected value The white paper suggests an expected value approach that differs from current practiceapproach that differs from current practice

Current DOE practice implied by white paper - Value the new technology under a most likely scenario

Options analysis – Define multiple possible scenarios (should be mutually

exclusive and collectively exhaustive)– Assume an option on technology adoption

• Favorable future, adopt• Unfavorable future, do not adopt

– Calculate the expected value over the scenarios

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Transition to this approach may face many Transition to this approach may face many difficultiesdifficulties

Identifying appropriate scenarios Assigning probabilities to scenarios Assuring credible and unbiased scenarios and

probabilities Conflicts between probability and policy New skills for evaluators

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Adopting a broad view of options would have Adopting a broad view of options would have significant valuesignificant value

Valuation is not separable from strategy. Strategy formulation should include a search for options. Undiscovered options are not valued or acted upon

Markets provide useful information on value