Evaluating pharmaceutical R&D under technical and economic uncertainty

Enrico Pennings and Luigi Sereno

European Journal of Operational Research, 2011, vol. 212, issue 2, 374-385

Abstract: 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 diffusion 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 find that the sensitivity of the option with respect to economic uncertainty and market introduction cost decreases when technical uncertainty increases.

Keywords: Compound; option; Jump-diffusion; process; R&D; Pharmaceutical; industry (search for similar items in EconPapers)
Date: 2011
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Citations: View citations in EconPapers (42)

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Persistent link: https://EconPapers.repec.org/RePEc:eee:ejores:v:212:y:2011:i:2:p:374-385

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