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Irreversible Investment in Alternative Projects

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  • Décamps, Jean-Paul
  • Mariotti, Thomas
  • Villeneuve, Stéphane

Abstract

We study the problem of a risk-neutral decision-maker who has to choose among two alternative investment projects of different scales under output price uncertainty. We provide parameter restrictions under which the optimal investment strategy is not a trigger strategy and the optimal investment region is dichotomous. Whenever the decision-maker has the opportunity to switch from the smaller scale to the larger scale project, the dichotomy of the investment region can persist even when the volatility of the output price process becomes large. Copyright Springer-Verlag Berlin/Heidelberg 2006

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Bibliographic Info

Paper provided by Institut d'Économie Industrielle (IDEI), Toulouse in its series IDEI Working Papers with number 193.

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Date of creation: Jun 2003
Date of revision: Jul 2004
Publication status: Published in Economic Theory, vol.�28, n°2, Springer Berlin / Heidelberg, juin 2006, p.�425-448.
Handle: RePEc:ide:wpaper:619

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  1. Pindyck, Robert S, 1988. "Irreversible Investment, Capacity Choice, and the Value of the Firm," American Economic Review, American Economic Association, vol. 78(5), pages 969-85, December.
  2. Grenadier, Steven R, 1996. " The Strategic Exercise of Options: Development Cascades and Overbuilding in Real Estate Markets," Journal of Finance, American Finance Association, American Finance Association, vol. 51(5), pages 1653-79, December.
  3. Andrew B. Abel & Janice C. Eberly, 1995. "Optimal Investment with Costly Reversibility," NBER Working Papers 5091, National Bureau of Economic Research, Inc.
  4. Farzin, Y. H. & Huisman, K. J. M. & Kort, P. M., 1998. "Optimal timing of technology adoption," Journal of Economic Dynamics and Control, Elsevier, Elsevier, vol. 22(5), pages 779-799, May.
  5. Arrow, Kenneth J & Fisher, Anthony C, 1974. "Environmental Preservation, Uncertainty, and Irreversibility," The Quarterly Journal of Economics, MIT Press, MIT Press, vol. 88(2), pages 312-19, May.
  6. L. Wade, 1988. "Review," Public Choice, Springer, Springer, vol. 58(1), pages 99-100, July.
  7. Leahy, John V, 1993. "Investment in Competitive Equilibrium: The Optimality of Myopic Behavior," The Quarterly Journal of Economics, MIT Press, MIT Press, vol. 108(4), pages 1105-33, November.
  8. Décamps, Jean-Paul & Mariotti, Thomas & Villeneuve, Stéphane, 2000. "Investment Timing under Incomplete Information," IDEI Working Papers, Institut d'Économie Industrielle (IDEI), Toulouse 115, Institut d'Économie Industrielle (IDEI), Toulouse, revised Apr 2004.
  9. Dixit, Avinash, 1993. "Choosing among alternative discrete investment projects under uncertainty," Economics Letters, Elsevier, vol. 41(3), pages 265-268.
  10. Bar-Ilan, Avner & Strange, William C., 1998. "A model of sequential investment," Journal of Economic Dynamics and Control, Elsevier, Elsevier, vol. 22(3), pages 437-463, March.
  11. Dixit, Avinash K, 1989. "Entry and Exit Decisions under Uncertainty," Journal of Political Economy, University of Chicago Press, University of Chicago Press, vol. 97(3), pages 620-38, June.
  12. McDonald, Robert & Siegel, Daniel, 1986. "The Value of Waiting to Invest," The Quarterly Journal of Economics, MIT Press, MIT Press, vol. 101(4), pages 707-27, November.
  13. Henry, Claude, 1974. "Investment Decisions Under Uncertainty: The "Irreversibility Effect."," American Economic Review, American Economic Association, vol. 64(6), pages 1006-12, December.
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Citations

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Cited by:
  1. Marvasti, Akbar, 2013. "The role of price expectations and legal uncertainties in ocean mineral, exploration activities," Resources Policy, Elsevier, Elsevier, vol. 38(1), pages 68-74.
  2. Fleten, Stein-Erik & Maribu, Karl Magnus & Wangensteen, Ivar, 2005. "Optimal investment strategies in decentralized renewable power generation under uncertainty," MPRA Paper 218, University Library of Munich, Germany, revised Jun 2006.
  3. BOBTCHEFF Catherine & VILLENEUVE Stephane, 2006. "Irreversible Investment in Competitive Projects: A New Motive for Waiting to Invest," LERNA Working Papers, LERNA, University of Toulouse 06.20.213, LERNA, University of Toulouse.
  4. Chronopoulos, Michail & De Reyck, Bert & Siddiqui, Afzal, 2011. "Optimal investment under operational flexibility, risk aversion, and uncertainty," European Journal of Operational Research, Elsevier, Elsevier, vol. 213(1), pages 221-237, August.
  5. Somayeh Heydari & Nick Ovenden & Afzal Siddiqui, 2012. "Real options analysis of investment in carbon capture and sequestration technology," Computational Management Science, Springer, vol. 9(1), pages 109-138, February.
  6. Siddiqui, Afzal & Takashima, Ryuta, 2012. "Capacity switching options under rivalry and uncertainty," European Journal of Operational Research, Elsevier, Elsevier, vol. 222(3), pages 583-595.
  7. Mason, Robin & Weeds, Helen, 2010. "The Timing of Takeovers in Growing and Declining Markets," CEPR Discussion Papers, C.E.P.R. Discussion Papers 7678, C.E.P.R. Discussion Papers.
  8. GAHUNGU, Joachim & SMEERS, Yves, 2011. "A real options model for electricity capacity expansion," CORE Discussion Papers, Université catholique de Louvain, Center for Operations Research and Econometrics (CORE) 2011044, Université catholique de Louvain, Center for Operations Research and Econometrics (CORE).
  9. Siddiqui, Afzal & Fleten, Stein-Erik, 2008. "How to Proceed with Competing Alternative Energy Technologies: a Real Options Analysis," MPRA Paper 15502, University Library of Munich, Germany, revised 04 May 2009.
  10. Décamps, Jean-Paul & Villeneuve, Stéphane, 2005. "Optimal Dividend Policy and Growth Option," IDEI Working Papers, Institut d'Économie Industrielle (IDEI), Toulouse 369, Institut d'Économie Industrielle (IDEI), Toulouse.
  11. Siddiqui, Afzal S. & Maribu, Karl, 2009. "Investment and upgrade in distributed generation under uncertainty," Energy Economics, Elsevier, Elsevier, vol. 31(1), pages 25-37, January.
  12. Nishihara, Michi & Shibata, Takashi, 2013. "The effects of external financing costs on investment timing and sizing decisions," Journal of Banking & Finance, Elsevier, vol. 37(4), pages 1160-1175.
  13. Joachim Gahungu and Yves Smeers, 2012. "A Real Options Model for Electricity Capacity Expansion," RSCAS Working Papers, European University Institute 2012/08, European University Institute.
  14. Julieta Caunedo, 2013. "Industry Dynamics, Investment and Business Cycles," 2013 Meeting Papers, Society for Economic Dynamics 1078, Society for Economic Dynamics.
  15. Huisman, K.J.M. & Kort, P.M., 2013. "Strategic Capacity Investment Under uncertainty," Discussion Paper, Tilburg University, Center for Economic Research 2013-003, Tilburg University, Center for Economic Research.
  16. Michi NISHIHARA & Takashi SHIBATA, 2012. "The effects of external financing costs on investment timing and sizing decisions," Discussion Papers in Economics and Business 12-07, Osaka University, Graduate School of Economics and Osaka School of International Public Policy (OSIPP).

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