This study sets up a compound option approach for evaluating pharmaceutical R&D investment projects in the presence of technical and economic uncertainties. Technical uncertainty is modeled as a Poisson jump that allows for failure and thus abandonment of the drug development. Economic uncertainty is modeled as a standard di¤usion process which incorporates both up-and downward shocks. Practical application of this method is emphasized through a case analysis. We show that both uncertainties have a positive impact on the R&D option value. Moreover, from the sensitivity analysis, we …nd that the sensitivity of the option with respect to economic uncertainty and market introduction cost decreases when technical uncertainty increases.

Additional Metadata
Keywords G13, G24, G30, R&D, compound option, jump-discussion process, pharmaceutical industry
JEL C6, Mathematical Methods and Programming (jel), D21, Firm Behavior (jel), L20, Firm Objectives, Organization, and Behavior: General (jel), M, Business Administration and Business Economics; Marketing; Accounting (jel), O32, Management of Technological Innovation and R&D (jel)
Publisher Erasmus Research Institute of Management (ERIM)
Persistent URL
Pennings, H.P.G, & Sereno, L. (2010). A Model for Evaluating Pharmaceutical R&D Investment Projects under Technical and Economic Uncertainties (No. ERS-2010-009-STR). ERIM report series research in management Erasmus Research Institute of Management. Erasmus Research Institute of Management (ERIM). Retrieved from