Starting an R&D project under uncertainty

We study a two-stage R&D project with an abandonment option. Two types of uncertaintyinfluence the decision to start R&D. Demand uncertainty is modelled as a lottery between aproportional increase and decrease in demand. Technical uncertainty is modelled as a lotterybetween a decrease and increase in the cost to continue R&D. We relate differences inuncertainty to differences in risk premia. We deduct testable hypotheses on the basis of whichwe empirically analyze the impact of uncertainty on the decision to start an R&D project.Using data for about 4000 German firms in manufacturing and services (CIS IV), our modelpredictions are strongly confirmed.....