Abstract

http://ssrn.com/abstract=461362
 
 

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A Model of R&D Valuation and the Design of Research Incentives


Jason C. Hsu


Research Affiliates, LLC; University of California, Los Angeles - Anderson School of Business

Eduardo S. Schwartz


University of California, Los Angeles (UCLA) - Finance Area; National Bureau of Economic Research (NBER)

October 2003

NBER Working Paper No. w10041

Abstract:     
We develop a real options model of R&D valuation, which takes into account the uncertainty in the quality of the research output, the time and cost to completion, and the market demand for the R&D output. The model is then applied to study the problem of pharmaceutical under-investment in R&D for vaccines to treat diseases affecting the developing regions of the world. To address this issue, world organizations and private foundations are willing to sponsor vaccine R&D, but there is no consensus on how to administer the sponsorship effectively. Different research incentive contracts are examined using our valuation model. Their effectiveness is measured in the following four dimensions: cost to the sponsor, the probability of development success, the consumer surplus generated and the expected cost per person successfully vaccinated. We find that, in general, purchase commitment plans (pull subsidies) are more effective than cost subsidy plans (push subsidies), while extending patent protection is completely ineffective. Specifically, we find that a hybrid subsidy constructed from a purchase commitment combined with a sponsor co-payment feature produces the best results in all four dimensions of the effectiveness measure.

Number of Pages in PDF File: 65

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Date posted: October 27, 2003  

Suggested Citation

Hsu, Jason C. and Schwartz, Eduardo S., A Model of R&D Valuation and the Design of Research Incentives (October 2003). NBER Working Paper No. w10041. Available at SSRN: http://ssrn.com/abstract=461362

Contact Information

Jason C. Hsu
Research Affiliates, LLC ( email )
620 Newport Center Dr
Suite 900
Newport Beach, CA 92660
United States
HOME PAGE: http://www.jasonhsu.org
University of California, Los Angeles - Anderson School of Business
110 Westwood Plaza
Los Angeles, CA 90095-1481
United States
Eduardo S. Schwartz (Contact Author)
University of California, Los Angeles (UCLA) - Finance Area ( email )
Los Angeles, CA 90095-1481
United States
310-825-1953 (Phone)
310-206-5455 (Fax)
National Bureau of Economic Research (NBER)
1050 Massachusetts Avenue
Cambridge, MA 02138
United States
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