Real options valuation of a federally funded small Business portfolio

Abstract

The Small Business Innovation Research program forms a key element of federal support of innovation and entrepreneurship. Historically this program has been valued on a cost basis and evaluated in terms of broader economic impact. Traditional discounted cash flow (DCF) techniques are inappropriate for projects with strongly skewed distributions of the probability of success; furthermore, the associated discount rate varies strongly in time, invalidating the assumptions of DCR analysis. While real options analysis accounts for flexibility in management opportunities and variations in risk levels, this methodology has only found limited use in the entrepreneurship literature to date. In this work, we analyze the SBIR portfolio of the National Aeronautics and Space Administration (NASA) in the years 2009–2011. We discuss the quantitative results as well as the implications of using a real options approach for valuations of federally funded technology commercialization programs, as well as commercial portfolios.