Towards a Well-Founded Valuation of Managerial Flexibilities in IT Investment Projects - A Multidisciplinary Literature Review

Abstract

In the IS literature standard financial option pricing models are predominantly used to value real options embedded in uncertain IT projects. Based on a multidisciplinary literature review, we discuss the assumptions implicit in the prevalent Black-Scholes model and argue for relaxed assumptions that better represent characteristics of uncertain IT projects. This is followed by a discussion of real option approaches from the fields of IS, Finance, and Economics in respect of their compliance with these relaxed assumptions. Findings are: (I) by relaxing the assumptions, the option value and project selection decisions are liable to change; (II) several approaches from Finance and Economics literature better comply with our relaxed assumptions compared to existing approaches in IS literature; (III) no existing real option approach complies with all relaxed assumptions. Adapting and enhancing approaches of other disciplines could be a push towards a well-founded valuation of real options embedded in IT projects.

Keywords: Real Options Analysis, Black-Scholes Model, Assumptions, Characteristics of IT Projects, Multidisciplinary Literature Review

JEL Classification: G11, G13