A Real Options Approach to Valuing the Risk Transfer in a Multi-Year Procurement Contract
Abstract
Using real options analysis, we developed a methodology to estimate the value of the revenue risk reduction that the government provides when it enters into a multi-year procurement (MYP) contract with a defense contractor. We apply methods used to price financial options to estimate the value of revenue risk reduction with a notional MYP contract with a representative defense contractor. While the government often uses MYP contracts to buy weapon systems, it has not previously been compensated (e.g., by paying less fee) for reducing the revenue volatility of its contractors. We show that this reduction in volatility has substantial value to the contractor.
Document Details
- Document Type
- Technical Report
- Publication Date
- Oct 01, 2009
- Accession Number
- ADA530844
Entities
People
- Marius S. Vassiliou
- Scot A. Arnold
Organizations
- Institute for Defense Analyses