The purpose of this study is to apply real options techniques to estimate the value of Bio-Technology companies. Most Bio-Technology companies are very optimistic about their business opportunity, despite considerable uncertainty about the value of the market opportunity they are chasing. So they can be characterized by high risk and high return with high uncertainty in a word.
The DCF (Discounted Cash Flow) method, one of the traditional and most frequently used evaluation method, unfortunately overlooks uncertainty. This conventional valuation technique that is unable to capture or quantify the value attached to the uncertainty that surrounds high growth industries and also unable to support managerial decision adequately because it ignores the benefits of manager’s flexibility and future opportunity shows its limitations when one applies it to investments requiring substantial commitment under conditions of significant uncertainty. However, the real option method captures the value of managerial flexibility in a way that Net Present Value analysis does not.
This study chooses a Bio-Technology company, just listed on KOSDAQ and it applies the valuation of the company with DCF and Real Option method. The model applied to the real option approach is Black-Scholes Option Model and Luehrman Model. The result shows that the DCF compared with real options has underestimated the value of the Bio-Technology company.
In financial terms, a business strategy is more like a series of options than it is like a series of static cash flows. The real option can be used to improve decision making for the sequence and a portfolio timing of strategic investments. This study evaluates the value of strategically important project. The results show that the Real Option Method is much more adequate to evaluate Bio-Technology companies than the DCF method.
