Patents as Options: Path-Dependency and Patent Value

Enabled by the Bayh-Dole Act (1980), universities license access to innovations protected by US patents. Despite the growing importance of license revenue to cashstrapped land-grant universities that generate a large share of agricultural innovations, there has been no formal attempt to determine an optimal pricing strategy for patent licenses. We recognize that patents are options on the stream of future revenues, and apply option-valuation techniques to determine optimal pricing strategies for university technology o¢ cers. We …nd that path-dependency in license revenue streams creates signi…cant di¤erences in the optimal pricing strategy relative to more standard riskneutral pricing models, but that path-dependent pricing more nearly approximates observed patent prices. While non-path dependent prices yield conventional sensitivities to volatility, mean-reversion and returns-growth, path-dependent prices show highly non-linear comparative statics. These results are important both for patent licensees, and for licensors seeking to maximize license revenue. keywords: Bayh-Dole Act, innovation, licenses, option valuation, patents, path-dependency. JEL Codes: D45, G12, L24, Q16. Richards is Morrison Professor of Agribusiness in the Morrison School of Management and Agribusiness, Arizona State University and Rickard is Assistant Professor in the Charles H. Dyson School of Applied Economics at Cornell University. Contact author: Richards, 7231 E. Sonoran Arroyo Mall, Mesa, AZ. 85212. (480) 727-1488, Fax: (480) 727-1961, email: [email protected]. Copyright 2013 by Timothy J. Richards. All rights reserved. Readers may make verbatim copies of this document for non-commercial purposes by any means, provided this copyright notice appears on all such copies.