ABSTRACT
The operative elements in both the traditional and the sense-and-respond approaches to information systems (IS) planning are information technology (IT) investments. There is growing agreement that effective management of risk within and across IT investments requires careful planning and informed judgments on how much and what forms of flexibility to incorporate into the investments. To place this endeavor on a solid economic foundation, a growing body of IS research uses real options theory to conceptualize and value different forms of flexibility and the risk mitigation strategies they enable in terms of real options. A framework embodying the main ideas underlying this research is called option-based risk management (OBRiM). OBRiM is one of several approaches using real options to configure investments so as to control risk and add value, but its fundamental advantages are its metrics for calibrating risk and its structured approach to identifying which real options to use for given risks. The logic of OBRiM and its underlying theory has been validated empirically in two different contexts. And OBRiM itself has been applied successfully in a field study setting to a large-scale data-warehousing project at a major airline. While our review of this body of research confirms and demonstrates the relevance of option-based risk management to IT investment planning and management, it also highlights important implications for research and practice and reveals challenges requiring additional research. Perhaps the most important implications are that IS work on real options provides a solid economic basis for improving IT risk management practices, it opens new venues for investigating a host of behavioral and economic issues relating to IS planning, and it can be linked with mean-variance theory for the purpose of managing portfolios of interrelated IT investments.
