High stakes in high technology: High-tech market values as options

Abstract

In science-based industries, world-class scientists drive the most successful firms. These scientists are more likely to follow high-stakes, high-returns R&D strategies instead of more predictable incremental strategies. We develop an options pricing model in which the probability of stock-price jumps increases with knowledge capital. GMM estimates show the probability of stock-price jumps increases with three measures of knowledge capital intensity, two of which can be reasonably estimated contemporaneously. The model explains most variation in biotech firm market values. Firms with two standard deviations more knowledge capital are valued 10-50% more than firms with mean values of all variables.