Real options are generally used, in a broader sense, as analytical tools for managerial decision-making for irreversible huge investments such as the oil exploring business, real estate development project and aircraft development, however, in our study, we define a real option, in a narrow sense, as a contract or right to buy or sell something real at a specified price over a period of time. We have been researching and developing real option application models in this narrow sense. Here we present a general product development framework, and product development models with real options. In general, the problems of developing products are that it takes time and cost and that the project does not always succeed. The real option model can solve most of these problems. The developer company would recover the developing cost before completing the product by writing real options on the developing project. If the project succeeds, the project leader and developers may promote to manage the whole marketing strategy and even spin-off to control the whole product business in a subsidiary, which will make them work harder. They may earn big bonuses by selling real options, which will give them stronger incentives to speed up the project. The project leader may have stronger leadership to solve the project issues, which will raise the probability of the project success.
The developer company may buy real options from outside companies, if the outside products are expected to be better than its own-making product. Buying real options means to invest in and utilize outside resources. The real option offers a chance to an open developmental environment. It could play an important role to extend the business and become a conglomerate by offering necessary money and/or utilizing outside resources.
There are couples of difficulties to realize the real option transaction. The discloser of the underling project information may destroy the technology priority and raise the rival product. The specialist of the real option will be needed within the company, which is an expensive personnel cost, and might create management fraud by abusing real options. The buyer of the real option must research the due diligence, which is expensive and time-consuming, to get the higher performance of the investment.
The top management must pursue the efficiency of the management and real options can be the strategically managerial tools for them. They could raise the ROI and ROE by writing and/or buying real options. They could change even the whole financial statement position through using real options. The writer company can flexibly change the real option contract term by negotiating with the buyer to meet both needs. It could hedge its business and investment by writing and/or buying real options. In the future, if real option markets are set up, real options can be more strategic like financial options and the portfolio of real options would change the whole management and financial strategies.