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Incorporating technical risk in compound real option models to value a pharmaceutical R&D licensing opportunity |
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| Authors: | D. Cassimon M. De BackerP.J. Engelen M. Van Wouwe V. Yordanov |
| Affiliation: | a University of Antwerp, Institute of Development Policy and Management, Lange Sint-Annastraat 7, B-2000, Antwerp, Belgium b Johnson & Johnson, Turnhoutseweg 30, B-2340 Beerse, Belgium c Utrecht University, School of Economics, Janskerkhof 12, 3512BL Utrecht, The Netherlands d Tjalling C. Koopmans Institute, Janskerkhof 12, 3512BL Utrecht, The Netherlands e University of Antwerp, Department of Mathematics and Computer Science, Middelheimlaan 1, 2020 Antwerp, Belgium f Vienna Graduate School of Finance, Stumpergasse 56, 1060 Vienna, Austria g RODEO Research Centre, Brussels, Belgium |
| Abstract: | The valuation of multi-staged pharmaceutical R&D can be interpreted as a chain of real options. In valuing these compound option models, a crucial problem is how to deal with the different types of risk. Previous models, such as Cassimon et al. (2004), offer a closed-form solution for the valuation of a new drug development using a generalized n-fold compound option model, but implicitly bundle both commercial and technical risk in one risk measure. We extend this model by explicitly incorporating technical risk, while still preserving the closed-form solution of the model. As such, this extended model is better suited to handle real-life valuation cases in the pharmaceutical industry. We document the theoretical model with a real-life project of a major pharmaceutical multinational. |
| Keywords: | C6 G12 G24 G31 |
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