# Presentation: 411764

## Valuing R&D:Investment and Risk ModelingMethods and Tools at Boeing

- Scott Mathews, Technical Lead
- Mathematical Modeling Analyst
- Computational Finance and Statistical Modeling
- Analytic Modeling & Simulation, PW
- 253-773-2695

## Investment QuestionsAnswered by Boeing Methods 

**What should I be investing in today, how much and why?**
**Are these investments either increasing my return opportunities or decreasing risk?  How?**
**What are the risks and how am I hedged for their eventuality?**
**How does this investment optimize my long term strategy-portfolio holdings/risk/return?**

## Issues with Traditional Financial Models used for in Technical R&D Programs

**Risk is never modeled as a quantitative value**
**Financial models don’t capture technical decisions or flexibility to change direction**
**High discount rate for long-term uncertain payoff or high risk programs result in negative NPV**
**Sparse market data and projections**
**Inability to collaborate technical and financial models, especially large programs**

## Some Boeing Investment and Risk Methods

**Quantitative Technical Risk Modeling**
**Investment vs. Risk Modeling**
**Real Options**
**Demand (Price & Quantity) Modeling**
**Structured (Object-Oriented) Spreadsheet Modeling **
**Portfolio Analysis**

## Why Model Uncertainty

- Estimates compress reality into a single value:  the *Most Likely**** *****Value**

## Diagrams for Unfolding Future

**Diagrams for Unfolding Future**

## Quantitative Technical Risk ModelingBuilding Uncertainty into Models

- ExcelspreadsheetwithCrystal Balladd-in

## Risk Management through Targeted Investments

**Risk Management through Targeted Investments**

**Today’s projection of future asset (****Red ****distribution)**
**Without investment today, production will commence with great cost uncertainties.  Project discount rate is high. **
**Investment today in Technology Development increases the predictability of program costs.   This reduces program cost risks.  (****Blue**** distribution).  Project discount rate lowers.**

## Investment vs. Risk Modeling

**Quantitatively rank investment decisions to risk reduction**
**Estimate reduction from current risk levels to target production-ready risk levels**

- Mathews Ratio*
- Calculates Investment Effectiveness:
- 	_Change in Risk_	    Investment

- *“Mathews Ratio, Copyright (c) 2001, The Boeing Company, All Rights Reserved."

## 

**The Value of Project Management Flexibility**
**Concept of Real Options**

- Time

*Most likely*
*Value* (NPV Value)

****

****

****

- Greater
**Profits**

- Worse
**Losses**

**Profit/Loss Profile**

## Simplified Real Options The Datar-Mathews Method*

**Intuitive and transparent**
**Easily integrated into spreadsheets with simulation methods**
**Facilitates strategic planning**
**Extensible to many option types**
**A Boeing strategic advantage**

- *“Datar-Mathews Method for Quantitative Real Option Valuation, Copyright (c) 2001, The Boeing Company, All Rights Reserved."

## Quickly Deriving Market DemandThe Boeing Demand Curve* Method

**Key to quantifying primary project risk:  Price and Quantity**
**Uses sparse data inputs **
**Easily integrated into spreadsheets with simulation methods**
**Two methods have been developed**
**Non-differentiated markets (such as commodities, prices are public)**
**Differentiated markets (such as durable goods sold by contract)**
**Calculates optimum price and quantity to maximize profits**
**An adjunct to project real option valuation**

- *“The Boeing Demand Curve, Copyright (c) 2001, The Boeing Company, All Rights Reserved."

## Demand ModelingThe Boeing Demand Curve* Method

**Demand (Market Price)**

** **

**Cost**

**$40M**

**$60M**

**$80M**

**$100M**

**$120M**

**$140M**

**0**

**200**

**400**

**600**

**800**

**1000**

**Units Sold**

**Gross Profits**

**$0B**

**$2B**

**$4B**

**$6B**

**$8B**

**-$2B**

**Profits**

**Price**

## Some Demand Model ResultsMaximizing Project Profits

**Clear visualization of interplay of variables**
**Optimum Price is a narrowly defined price range**
**Easily integrated into real options simulation model**

## Structured (Object-Oriented) Spreadsheet Modeling for Large-Scale Business Cases

**Provides ability to exchange or add components efficiently**
**Allows objects created by different parts of a corporation to be tied together**
**Makes it easy to incorporate new ideas and methods given specific inputs and outputs**
**Key Capabilities:**
**Facilitates Knowledge Management**
**Monitors Data Flow**
**Extensibility**

**CPML UML**
**Structured**
**(OO) Model**

## Portfolio Analysis

***Low-Level        ***
***Dependencies          ***

**Asset 1**

**Asset 4**

**Asset 3**

**Asset 2**

**Platform Risk, NPV, Cash Flow, Economic Profit, Option Value,**
**Risk Adj. Profit, Sensitivity**

**Combining independent models into portfolio**
**Use *****Sharpe***** Ratio, ($/********) to determine investment exposure and returns**

## End of Presentation