25 Years of Real Option Empirical Research in Management

Abstract

For several decades, management scholars have extolled the virtues of using real option logic when making decisions under uncertainty. Real option logic suggests that in such situations, firms might be better off deferring or staging investments, reducing potential financial losses, while at the same time securing an option to grow (or abandon) the investment when uncertainty abates. Our analysis of the empirical research published in leading management journals over the past 25 years suggests that while some progress has been made, much more work needs to be done. We still do not have the answers to critical questions such as: Which entrepreneurial/managerial traits impact the identification or exploitation of real options? Do multiple types of uncertainties interact with each other and influence real option decisions? Addressing these and other issues identified in our study can help improve our understanding of the usefulness of real option logic in management.

A quantitative approach to risk-driven strategy formulation: A case study introducing a real-options framework

“…Within the pertaining literature, the relationship between RO logic and performance is examined from three perspectives [1]. One part of this research suggests that possessing a portfolio of real options or making real option investment decisions improves overall firm value [10][11][12].…”

“…This representation is named the "risk-adjusted" curve. RO empirical research in management published in leading journals over the past 25 years suggests that, while some progress has been made, much more work needs to be done [1]. Several past reviews have indicated that the focus on using RO in practice should be more researched [54,55].…”

“…Strategic risk management dealing with deep uncertainty has not been very well developed in the pertaining literature [53]. Although scholars have studied quantitative methods by applying the RO logic to many specific business aspects, an analytical and explicit approach to the strategy formulation process through the RO valuation lens seems not thoroughly addressed yet [1].…”

“…Management scholars are excited about real options (RO) logic in the hope that it will improve performance [1]. RO logic helps managers create value when making decisions because it focuses on managing the uncertainty concerning an investment's upside benefits and downside threats [2].…”

“…This approach, called managerial flexibility [3], is based on the presumption that an option allows managers to take action in the future, depending on the contingencies and new information that arise within industry uncertainty. In this respect, an RO framework can shape the level of real asset investments and maximize business value in markets characterized by different degrees of trade-offs on the downside risk and upside potential [1,4]. The distinctive characteristic of an RO analysis is how it deals with uncertainty.…”