chapter 7 Flashcards
capital rationing
the allocation of a finite quantity of resources over different possible uses. the firm sets a fixed R&D budget and then uses a rank ordering of possible projects to determine which will be funded.
R&D intensity
the ratio of R&D expenditures to sales.
quantitative methods for analysing new products
usually entail converting projects into some estimate future cash returns from a project.
discounted cash flow analysis
quantitative methods for assessing whether the anticipated future benefits are large enough to justify expenditure given the risk, and time value of money to evaluate projects. the two most commonly used forms are NPV and IRR.
Net present value (NPV)
equals the discounted cash inflows (PV) of a project minus the discounted outflows (PV). if the NPV > 0, the projecy generates wealth, given the assumptions made in calculating its costs and cash inflows. to find the PV, each cash flow must be discounted back to the current period using a discount rate.
annuity formula
can be used instead of discounting each of the cash inflows individually, if the cash inflows from a project are expected to be the same each year.
perpetuity formula
can be used if cash flows are expected forever.
discounted payback period
the time required to break even on a project using discounted cash flows. this can be calculated using the PV of costs and future cash flows.
internal rate of return (IRR)
the rate of return yielded by a project, normally calculated as the discount rate that makes the NPV of an investment equal to zero. managers can compare this rate of return to their required return to decide if the investment should be made.
real options
refers to the application of stock option valuation methods to investments in nonfinancial assets. they are based on a financial model called stock options. the assets underlying the value of the option are non-financial resources. an investor who makes an initial investment in R&D or breakthrough technologies is buying a real call option to implement that technology later, should it prove to be valuable.
call option
a call option on a stock enables an investor to purchase the right to buy the stock at a specified price in the future. the value of a call option remains zero as long as the price of the stock is less than the exercise price. if the value of the stock rises above it, the value of the call rises with the value of the stock.
screening questions
used to structure a discussion regarding the potential costs and benefits of a project. the questions may be organised into categories such as role of customers, role of capabilities, project timing and cost, etc. it may not always provide concrete answers about whether or not to fund a project, but they still enable a firm to consider a wider range of issues that may be important in the firm’s development decisions.
scoring mechanism
may be used instead of a list of screening questions. a scoring mechanism can be weighted according to importance and used in subsequent analysis.
aggregate project planning framework
companies find it valuable to map their R&D portfolio according to levels of risk, resource commitment, and timing of cash flows. managers use this map to compare their desired balance of projects with their actual balance of projects, identify capacity constraints, and better allocate resources. Four types of development projects commonly appear on this map—advanced R&D, breakthrough, platform, and derivative projects. Over time, a particular technology may migrate through these different types of projects.
advanced R&D projects
the precursor to commercial development projects and are necessary to develop cutting-edge strategic technologies.
