Adoption Timing of Technology Innovative Investment Project in Economic Rents Perspective ─ The...
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Adoption Timing of Technology Innovative Adoption Timing of Technology Innovative
Investment Project Investment Project
in Economic Rents Perspective in Economic Rents Perspective ──
The New-Generation TFT-LCD Panel Makers CasesThe New-Generation TFT-LCD Panel Makers Cases
Chung-Cheng LeeChung-Cheng Lee
Department of Business Administration,Department of Business Administration,Chaoyang University of TechnologyChaoyang University of Technology
May 8May 8thth, 2009, 2009
The Previous Version Had Been Presented at ACME 2008 Annual Meeting, Toronto, The Previous Version Had Been Presented at ACME 2008 Annual Meeting, Toronto, Canada, July 25Canada, July 25thth, 2008, 2008
ACME Annual Meeting, July 25, 2008ACME Annual Meeting, July 25, 2008 22
OutlinesOutlines
• Introduction
• Analytical Tool: Economic Rents
• Using Real Option Approach for Investment Timing Strategy
• Numerical Examples
• Conclusions
ACME Annual Meeting, July 25, 2008ACME Annual Meeting, July 25, 2008 33
Introduction Introduction (1)(1)
• In today’s hyper-competitive marketplace, many products like those that memory chipsmemory chips and TFT-LCD TVsTFT-LCD TVs are characterized by short life cyclesshort life cycles andrapidly-declining sales pricesrapidly-declining sales prices.
ACME Annual Meeting, July 25, 2008ACME Annual Meeting, July 25, 2008 44
Introduction Introduction (2)(2)
• An effective strategic management for the
technology innovative technology innovative investment projects
involves various decisions such as
which new technologywhich new technology to be adoptedto be adopted and
when to implement. when to implement.
ACME Annual Meeting, July 25, 2008ACME Annual Meeting, July 25, 2008 55
Analytical Tool : Economic RentAnalytical Tool : Economic Rent
Innovative Rents are understood here in their Schumpeterian sense of being reward for the first commercialization of an invention
Under rivalry, Rents would exist if the firm has a competitive advantage in realizing the project
ACME Annual Meeting, July 25, 2008ACME Annual Meeting, July 25, 2008 66
Introduction Introduction (3)(3)
• Economic rentsEconomic rents occur only if
comparative competitive advantagecomparative competitive advantage exists.
• A hi-tech firm can capture the economic rentseconomic rents
(the above-normal returnthe above-normal return) if the position with
strategic benefit of technology innovative
activities has been implemented.
ACME Annual Meeting, July 25, 2008ACME Annual Meeting, July 25, 2008 77
Introduction Introduction (4)(4)
• There is a decided preference for the
maximization of product revenues maximization of product revenues under
the innovative technology adoption timingthe innovative technology adoption timing
as an important objectiveas an important objective.
ACME Annual Meeting, July 25, 2008ACME Annual Meeting, July 25, 2008 88
Investment Timing Problem Investment Timing Problem (1)(1)
Deciding on the appropriate investment timing is a critical issue which raises the substantial questions coming from:
• the intrinsic uncertainty surrounding each new technology
• the inherently intangible nature of many of expected benefits
ACME Annual Meeting, July 25, 2008ACME Annual Meeting, July 25, 2008 99
Investment Timing Problem Investment Timing Problem (2)(2)
• the current and future availability of technical and economic information about new technology
• the need to develop new competences and skills
• the role played by learning process
• the partial or complete irreversibility of innovative investment
ACME Annual Meeting, July 25, 2008ACME Annual Meeting, July 25, 2008 1010
Real Option - Real Option - Uncertainty Embedded ValuesUncertainty Embedded Values
Real Option View
Traditional View
Inve
stm
ent o
ppor
tuni
ty v
alue
Uncertainty
Mnagerial Options Increase Values
ACME Annual Meeting, July 25, 2008ACME Annual Meeting, July 25, 2008 1111
Real Option - Real Option - expected project value might evolve over timeexpected project value might evolve over time
Pos
sibl
e Fu
ture
Val
ues
Time Horizon
Range of Possible Future Values
Now Future
ACME Annual Meeting, July 25, 2008ACME Annual Meeting, July 25, 2008 1212
Using Real Option Approach for Using Real Option Approach for Investment Timing StrategyInvestment Timing Strategy
• The Investment Timing Investment Timing of
Technology Innovation Project
is Analogous tois Analogous to
the TimingTiming of Exercising of An
American Call Option on a Dividend Paying Stock
ACME Annual Meeting, July 25, 2008ACME Annual Meeting, July 25, 2008 1313
Analytical Tool : Economic RentAnalytical Tool : Economic Rent
T h e e x p e c t e d n e t o p e r a t i n g c a s h i n f l o w e s t i m a t i o n i s a st h e o p p o r t u n i t y c o s t o f c a p i t a l p l u s t h e e c o n o m i c r e n t :( S m i t a n d A n k u m , 1 9 9 3 )
C F I k E Rt t ( 1 )
C F t = t h e e x p e c t e d n e t o p e r a t i n g c a s h f l o w
I = t h e i n v e s t m e n t c a s h o u t f l o w
k = t h e o p p o r t u n i t y c o s t o f c a p i t a l
E R t = t h e e x p e c t e d e c o n o m i c r e n t
Considering the yearly change rate of economic rent is x which is expected to decline exponentially. The expected economic rent of the innovation project:
txt eERER 0 ,3,2,1t (2)
txt eERkICF 0 ,3,2,1t (3)
ER0 = the initial value of the economic rent x = the yearly change rate of economic rent
Let the innovation project value will be (V0):
1
0
10 )1()1( t
t
tx
tt
t
k
eERkI
k
ERkIV ,3,2,1t (4)
We begin by assuming that the project follows a
multiplicative binomial process over discrete periods.
We consider the option to defer investment in
technology innovation project analogous to a
call option with a changing dividend payout ratio:δ t,s
t st s
t s
CF
V ss d or u,
,
,
, 1
(5)
CF I kk
e V s k It sx
t s, ,(( )
)( ( ) )
1
1
111 (6)
ACME Annual Meeting, July 25, 2008ACME Annual Meeting, July 25, 2008 1616
The investment Timing Decision Tree for The investment Timing Decision Tree for Technology Innovation ProjectTechnology Innovation Project
V V uu u u4 3 41 1 11 ( )*
V V uu u u3 2 31 1 11 ( )* C Max V Iu u4 41 1
0 [ , ]
C Max abandon V I investu u3 31 10 [ ,( ); ,( );
( ) / r, (p C p C deferu d 4 41 11( ) )] V V dd u d4 3 41 1 1
1 ( )*
V V uu u u2 1 21 11 ( )* C Max V Id d4 41 1
0 [ , ]
C Max abandon V I investu u2 21 10 [ ,( ); ,( );
V V uu u1 0 11 ( )* ( ) / r, (p C p C deferu d 3 31 11( ) )] V V uu d u4 3 42 1 2
1 ( )*
C Max abandon V I investu u1 10 [ ,( ); ( ); , V V dd d d3 2 31 1 11 ( )* C Max V Iu u4 42 2
0 [ , ]
( ) / r, ( p C p C deferu d 2 21 11( ) ) ] V V dd u d2 1 21 1
1 ( )* C Max abandon V I investd d3 31 10 [ ,( ); , ( );
V0 C Max abandon V I investd d2 21 1
0 [ ,( ); ,( ); ( ) / r, (p C p C deferu d 4 42 21( ) )] V V dd d d4 3 42 1 2
1 ( )*
C Max (abandon)0 0 [ , ; ( ) / r, (p C p C deferu d 3 32 21( ) )] : C Max V Id d4 42 2
0 [ , ]
V I invest0 , ); ( : : : ( ( ) )/ ( )p C p C r deferu d 1 11 , ] : : :
V V dd d1 0 11 ( )* : : :
C Max abandon V I investd d1 10 [ ,( ); ,( ); : : :
( ) / r, ( p C p C deferu d 2 22 21( ) ) ] V V dd d u2 1 22 2
1 ( )* : :
C Max abandon V I investd d2 22 20 [ ( ), ( ), : :
( ) / r ( p C p C deferu d 3 34 41( ) ) ] : V V uu d u4 3 48 4 8
1 ( )*
V V dd d d3 2 34 2 41 ( )* C Max V Iu u4 48 8
0 [ , ]
C Max abandon V I investd d3 34 40 [ ( ), ( ),
( ) / r ( p C p C deferu d 4 48 81( ) ) ] V V dd d d4 3 48 4 8
1 ( )*
C Max V Id d4 48 80 [ , ]
Figure 1. The investment Timing Decision Tree for Technology Innovation Project
ACME Annual Meeting, July 25, 2008ACME Annual Meeting, July 25, 2008 1717
Numerical ExampleNumerical Example
• A global top-five TFT-LCD panel company in Taiwan, has planned to invest the eighth-generation (8G)eighth-generation (8G) production lines to upgrade the technology positionupgrade the technology position.
• Together with the current 7G, the start of what is considered to be the world’s most advanced (8G) line will enable to expand production of large screen LCD panels for 50 inch class LCD
TVs
ACME Annual Meeting, July 25, 2008ACME Annual Meeting, July 25, 2008 1818
Numerical Example Numerical Example (2)(2)• The first 8G production line investment project in
Taiwan was announced in the beginning of 2006; however, there was no 8G production line has been constructed in the end of 2007.
• Considering the mainstream sizes of LCD TVs in the global market, which keep getting bigger even as LCD TV prices continue going down.
• These imply that the amount of revenue generated These imply that the amount of revenue generated may be decreasing because of completing a product may be decreasing because of completing a product as its adoption timing is delayed as its adoption timing is delayed
ACME Annual Meeting, July 25, 2008ACME Annual Meeting, July 25, 2008 1919
Numerical Example Numerical Example (3)(3)
The Estimated Cash Flows of the 8G TFT-LCD Panel Production Line Investment Project (Unit: Million US$ (Unit: Million US$ Dollars)Dollars)
Time 00 11 22 33 44 55 66 77 88 99 1010 1111 1212
I*k 205205 205205 205205 205205 205205 205205 205205 205205 205205 205205 205205 205205
ERt 315315 241241 185185 142142 187187 8383 6464 4949 3737 29 29 22 22 1717
CFt -2,400-2,400 520520 446446 390390 347347 313313 288288 269269 254254 242242 234234 227227 222222
NPV: 68.1813 ( k : WACC=8.5341%)
IRR: 9.2544% ( ) ,,3,21 , 315117735 2663.00 ,teeERER ttx
t
ACME Annual Meeting, July 25, 2008ACME Annual Meeting, July 25, 2008 2020
The investment Timing Decision Tree for The investment Timing Decision Tree for Technology Innovation Project with Technology Innovation Project with σσ=0.2=0.2
V2u1=2,988,196,939.17C2u1=588,196,939.17
“Invest”
V2d1=2,058,014,480.40C2d1=50,637,719.97
“Defer”
V2u2=2,251,725,644.21C2u2=104,928,162.7
“Defer”
V2d2=1,564,343,008.05C2d2=0
“Abandon”
V1u1=2,694,338,132,36C1u1=321,091,508.78
“Defer”
V1d1=1,911,051,573.42C1d1=53,046,035.05
“Defer”
V0=2,473,999,955.09C0=187,074,175.64
“Defer”
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The investment Timing Decision Tree for The investment Timing Decision Tree for Technology Innovation Project with Technology Innovation Project with σσ=0.4=0.4
V2u1=4,216,973,372.35C2u1=1,816,973,372.35
“Invest”
V2d1=1,986,619,373.66C2d1=220,632,044.26
“Defer”
V2u2=2,381,816,010.45C2u2=344,399,918.46
“Defer”
V2d2=1,162,030,017.25C2d2=0
“Abandon”
V1u1=3,166,643,415.27C1u1=890,732,389.08
“Defer”
V1d1=1,731,844,938.37C1d1=145,866,142.97
“Defer”
V0=2,473,999,955.09C0=457,317,625.52
“Defer”
ACME Annual Meeting, July 25, 2008ACME Annual Meeting, July 25, 2008 2222
Conclusions Conclusions (1)(1)
• With the advantage of option pricing approach, decision maker can evaluate the project value and decide the optimal investment timing base on different degree of uncertainty analysis.
• The results not only extend the advantage of keeping the future uncertain information simple but also provide the decision maker references to make decision under different level of uncertainty.
ACME Annual Meeting, July 25, 2008ACME Annual Meeting, July 25, 2008 2323
Conclusions Conclusions (2)(2)
• If the hi-tech firm is confident inis confident in its own management ability as well as future technology development process of the project,this firm will be more talent to take higher uncertainty.