Real options valuation of US federal renewable energy research, development, demonstration, and deployment

• Published in: Energy policy Vol. 35; no. 1; pp. 265 - 279
• Main Authors: Siddiqui, Afzal S., Marnay, Chris, Wiser, Ryan H.
• Format: Journal Article
• Language: English
• Published: Oxford Elsevier Ltd 2007; Elsevier; Elsevier Science Ltd
• Series: Energy Policy
• Subjects: Alternative energy sources; Applied sciences; Compound real options; Cost-benefit analysis; Decision making; Economic data; Electric energy; Energy; Energy economics; Energy policy; Exact sciences and technology; General, economic and professional studies; Methodology. Modelling; Natural energy; Non-renewable resources; R&D; Real options analysis; Renewable energy technology R&D; Renewable resources; Research & development; Research benefits analysis; Studies; Technology; U.S.A; United States; North America; America; United States > US; USA; Compound real options; Renewable energy technology R&D; Research benefits analysis; Performance evaluation; Demonstration unit; Renewable energy; Financial option; Electric power production; Cost analysis; Research and development; Investment
• ISSN: 0301-4215; 1873-6777
• DOI: 10.1016/j.enpol.2005.11.019

Benefits analysis of US Federal government research, development, demonstration, and deployment (RD
3) programmes for renewable energy (RE) technology improvement typically employs a deterministic forecast of the cost and performance of renewable and non-renewable fuels. The benefits estimate for the programme derives from the difference between two forecasts, with and without the RD
3 programme in place. Three deficiencies of this approach are that it ignores: (1) uncertainty in the cost of non-renewable energy (NRE); (2) the possibility of adjustment to the RD
3 effort commensurate with the evolving state of the world; and (3) the underlying technical risk associated with RD
3. In this paper, an intuitive approach to determining the option value of RE RD
3 is developed. This approach seeks to tackle the first two deficiencies noted above by providing an estimate via a compound real option of an RE RD
3 programme in a future with uncertain NRE costs. A binomial lattice reveals the economic intuition underlying the decision-making process, while a numerical example illustrates the option components embedded in a simplified representation of current US Federal RE RD
3.