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Investing in biogas: timing, technological choice and the value of flexibility from inputs mix

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  • Luca Di Corato

    ()
    (SLU - Uppsala)

  • Michele Moretto

    ()
    (University of Padova)

Abstract

In a stochastic dynamic frame, we study the technology choice problem of a continuous co- digestion biogas plant where input factors are substitute but need to be mixed together to provide output. Given any initial rule for the composition of the feedstock, we consider the possibility of revising it if economic circumstances make it profitable. Flexibility in the mix is an advantage under randomly fluctuating input costs and comes at a higher investment cost. We show that the degree of flexibility in the productive technology installed depends on the value of the option to profitably re-arrange the input mix. Such option adds value to the project in that it provides a device for hedging against fluctuations in the input relative convenience. Accounting for such value we discuss the trade-off between investment timing and profit smoothing flexibility.

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Bibliographic Info

Paper provided by Dipartimento di Scienze Economiche "Marco Fanno" in its series "Marco Fanno" Working Papers with number 0134.

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Length: 25 pages
Date of creation: Jun 2011
Date of revision:
Handle: RePEc:pad:wpaper:0134

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Keywords: Real Options; Flexibility; Technological Choice; Renewable Energy; Biomass; Anaerobic Digestion.;

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References

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  1. Cox, John C. & Ross, Stephen A., 1976. "The valuation of options for alternative stochastic processes," Journal of Financial Economics, Elsevier, Elsevier, vol. 3(1-2), pages 145-166.
  2. Alvarez, Luis H.R. & Stenbacka, Rune, 2007. "Partial outsourcing: A real options perspective," International Journal of Industrial Organization, Elsevier, Elsevier, vol. 25(1), pages 91-102, February.
  3. Dixit, A., 1988. "Entry And Exit Decisions Under Uncertainty," Papers, Princeton, Department of Economics - Financial Research Center 91, Princeton, Department of Economics - Financial Research Center.
  4. Michele Moretto & Gianpaolo Rossini, 2008. "Vertical Integration and Operational Flexibility," Working Papers, Fondazione Eni Enrico Mattei 2008.37, Fondazione Eni Enrico Mattei.
  5. He, Hua & Pindyck, Robert S., 1992. "Investments in flexible production capacity," Journal of Economic Dynamics and Control, Elsevier, Elsevier, vol. 16(3-4), pages 575-599.
  6. Triantis, Alexander J & Hodder, James E, 1990. " Valuing Flexibility as a Complex Option," Journal of Finance, American Finance Association, American Finance Association, vol. 45(2), pages 549-65, June.
  7. Brennan, Michael J & Schwartz, Eduardo S, 1985. "Evaluating Natural Resource Investments," The Journal of Business, University of Chicago Press, University of Chicago Press, vol. 58(2), pages 135-57, April.
  8. Mæng, H. & Lund, H. & Hvelplund, F., 1999. "Biogas plants in Denmark: technological and economic developments," Applied Energy, Elsevier, Elsevier, vol. 64(1-4), pages 195-206, September.
  9. Wang, Li Ming & Liu, Li Wen & Wang, Yong Jie, 2007. "Capacity decisions and supply price games under flexibility of backward integration," International Journal of Production Economics, Elsevier, Elsevier, vol. 110(1-2), pages 85-96, October.
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Cited by:
  1. Michael Funke & Yu-Fu Chen, 2009. "Booms, Recessions and Financial Turmoil: A Fresh Look at Investment Decisions under Cyclical Uncertainty," Quantitative Macroeconomics Working Papers, Hamburg University, Department of Economics 20908, Hamburg University, Department of Economics.
  2. Wittmann, Nadine & Yildiz, Özgür, 2013. "A microeconomic analysis of decentralized small scale biomass based CHP plants—The case of Germany," Energy Policy, Elsevier, Elsevier, vol. 63(C), pages 123-129.
  3. Luca Di Corato & Natalia Montinari, 2012. "Flexible Waste Management under Uncertainty," Jena Economic Research Papers, Friedrich-Schiller-University Jena, Max-Planck-Institute of Economics 2012-066, Friedrich-Schiller-University Jena, Max-Planck-Institute of Economics.
  4. Chen, Yu-Fu & Funke, Michael, 2009. "Booms, Recessions and Financial Turmoil: A Fresh Look at Investment Decisions under Cyclical Uncertainty," SIRE Discussion Papers, Scottish Institute for Research in Economics (SIRE) 2009-31, Scottish Institute for Research in Economics (SIRE).
  5. Carrosio, Giovanni, 2013. "Energy production from biogas in the Italian countryside: Policies and organizational models," Energy Policy, Elsevier, Elsevier, vol. 63(C), pages 3-9.
  6. Di Corato, Luca & Montinari, Natalia, 2014. "Flexible waste management under uncertainty," European Journal of Operational Research, Elsevier, Elsevier, vol. 234(1), pages 174-185.

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