Examination of the behavior of R&D returns using a power law

Sébastien Casault, Aard J. Groen, Jonathan D. Linton

Research output: Contribution to journalArticleAcademicpeer-review

6 Citations (Scopus)

Abstract

This paper provides an improved model, based on historical data, that describes the returns on assets that result from R&D efforts to assist managers of public and private R&D activities. Such a model may lead to better decision support tools to monetize the value that may be extracted from R&D, which is otherwise often undervalued. Real option pricing models are used to gauge appropriate funding levels for assets such as R&D projects that contain large time-dependent uncertainties. However, this study finds that assuming the Gaussian distribution describes fluctuations in value is not appropriate for assets whose value is derived from R&D activities. This conclusion is based on a study of 43 military R&D projects and 100 technology-intensive small firms. A power law, such as the Cauchy distribution, is shown to be more accurate in describing fluctuations in returns from R&D investments.
Original languageEnglish
Pages (from-to)219-228
Number of pages10
JournalScience and public policy
Volume40
Issue number2
DOIs
Publication statusPublished - 18 Dec 2013

Keywords

  • Real options
  • Black–Scholes
  • Power law
  • Thick tail
  • Cauchy distribution

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