DNPV: a valuation methodology for infrastructure and Capital investments consistent with prospect theory

Espinoza, David; Rojo, Javier; Cifuentes, Arturo; Morris, Jeremy Wade

doi:10.1080/01446193.2019.1648842

Cited by 9 publications

(4 citation statements)

References 44 publications

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“…The results in Table 4 illustrate how a positive NPV can turn into a negative prospect valuation V if diminishing sensitivity and loss aversion are considered. This happens even for a relatively small investment, such as the one registered in the example, and represents the real behavior of some airport managers and policy makers that show a reticent perception toward projects that produce negative cash flows in the short-term [18]. This behavior is consequently exacerbated when projects require strong capital investments in the initial years, yet are slow to generate positive cash flows, e.g., airport infrastructure developments.…”

Section: Inclusion Of Pgl 2: Utility Considerationsmentioning

confidence: 94%

“…Prospect theory [17] and related models in behavioral economics reject this paradigm and suggest, in contrast, that preferences depend on the reference point from which they are measured (with losses valued more than gains and diminishing sensitivity with increasing distance from the reference point), and that probabilities are evaluated nonlinearly (with changes in probabilities near zero and crucial variations in intermediate probabilities). Additionally, traditional valuation methodologies such as Cost-Benefit Analysis (CBA), Net Present Value (NPV), and Internal Rate of Return (IRR) utilize increased discount rates to account for risk, providing a time bias effect that promotes short-termism [18]. Consequently, the use of CBA, NPV, and IRR, which are markedly sensitive to the selection of discount rates, often discourages much-needed infrastructure projects that require large capital investments but yield positive cash flows slowly.…”

Section: Introductionmentioning

confidence: 99%

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Cost–Benefit Analysis of Investments in Air Traffic Management Infrastructures: A Behavioral Economics Approach

Rodríguez–Sanz

Andrada

2023

Aerospace

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An important and challenging question for airport operators is the management of airport capacity and demand. Airport capacity depends on the available infrastructure, external factors, and operating procedures. Investments in Air Traffic Management (ATM) infrastructures mainly affect airside operations and include operational enhancements to improve the efficiency, reliability, and sustainability of airport operations. Therefore, they help increase capacity while limiting the impact on the airport infrastructure itself. By reviewing the neoclassical valuation principles for Cost–Benefit Analysis (CBA), we find that it does not consider relevant behavioral economic challenges to conventional analysis, particularly: failure of the expected utility hypotheses, dependence of valuations on reference points, and time inconsistency. These challenges are then incorporated through practical guidelines into the traditional welfare model to achieve a new methodology. We propose a novel CBA behavioral framework for investments in ATM infrastructures to help policy makers and airport operators when faced with a capacity development decision. This is complemented with a practical example to illustrate and test the applicability of the proposed model. The case study evaluates the deployment of Automatic Dependent Surveillance–Broadcast (ADS–B) as an investment aimed at improving ATM operational procedures in the airport environment by providing advanced ground surveillance data. This allows airport operators to discover the causes of taxi congestion and safety hotspots on the airport airside. The benefits of ADS–B are related to enhanced flight efficiency, reduced environmental impact, increased airport throughput, and improved operational predictability and flexibility, thus reducing waiting times. At the airport level, reducing the waiting times of aircraft on the ground would lead to a capacity release and a reduction in delays. The results show that, following a traditional CBA, the investment is clearly viable, with a strong economic return. Including behavioral notions allows us to propose a new evaluation framework that complements this conclusion with a model that also considers inconsistencies in time and risk perception. A positive Net Present Value can turn into a negative prospect valuation, if diminishing sensitivity and loss aversion are considered. This explains the reticent behavior of decision makers toward projects that require robust investments in the short-term, yet are slow to generate positive cash flows. Finally, we draw conclusions to inform policy makers about the effects of adopting a behavioral approach when evaluating ATM investments.

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Section: Inclusion Of Pgl 2: Utility Considerationsmentioning

confidence: 94%

Section: Introductionmentioning

confidence: 99%

Cost–Benefit Analysis of Investments in Air Traffic Management Infrastructures: A Behavioral Economics Approach

Rodríguez–Sanz

Andrada

2023

Aerospace

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“…Their article considers cost-benefit analysis, incorporating risk considerations and cash flow analysis using the decoupled net present value (DNPV) methodology for risk-adjusted calculations to identify the optimal concession period. The DNPV method introduces the concept of the risk-cost ratio, evaluating the risk associated with lower-than-expected cash flows and representing compensation to investors for undertaking such risks (Espinoza et al 2020). Nguyen et al advocate for the separate consideration of interest rates and risk assessments in the value-for-money analysis process to evaluate the optimal concession period.…”

Section: Literature Reviewmentioning

confidence: 99%

Optimizing Concession Agreement Terms and Conditions: Stakeholder Interest Alignment in the Petrochemical Sector

Ponomarenko,

Gorbatyuk,

Galevskiy

et al. 2024

JRFM

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This article is devoted to the examination of models and the selection of optimal parameters for concession agreements pertaining to construction and operation projects within the pipeline infrastructure of the petrochemical sector. Pipelines are underscored as capital-intensive assets crucial for the organization of complex petrochemical production processes. These processes play a vital role in generating added value, tax revenue, employment opportunities, and fostering territorial development while upholding environmental quality standards. This study aims to ascertain the economic parameters of concession agreements, with a focus on achieving a balance of economic interests between the government and businesses. Through a comparative analysis of fundamental economic and mathematical models of concession agreements, the authors model economic parameters to determine the government’s share in investments and concession fees concerning pipeline projects. Subsequently, an oil product pipeline project is discussed as a case study. The results gleaned from this analysis can be harnessed to optimize the parameters of concession agreements and enhance the economic efficiency of project implementation. Economically viable parameters not only facilitate the execution of concession agreements but also foster the generation of added value, social benefits, and environmental oversight, thus aligning with the principles of sustainable development.

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“…In this way, the risk price is subtracted from the expected income or added to the costs, if it is associated with the project's expenses. With this method, the evaluation of the project is carried out consideringg a risk-free rate, since the risks of the project are being included separately and therefore, the resulting flows can be considered risk-free (Espinoza et al, 2019b).…”

Section: Introductionmentioning

confidence: 99%

Evaluation of Investment Projects in Photovoltaic Solar Energy Using the DNPV Methodology

Martínez-Ruiz

Manotas-Duque

Ramírez-Malule

2020

IJEEP

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The evaluation of investment projects has been carried out mainly through the analysis of discounted cash flow (DCF), whose financial feasibility measures have been based fundamentally on approaches such as the net present value (NPV) and the internal rate of return (IRR), which are widely discussed in the field of energy project valuation. Despite this, the classical methods have a limitation when perceiving relevant characteristics for decision-making in high-risk investments, such as the uncertainty of the cash flows and the quantification of risk. An alternative to the use of these methods is the technique known as decoupled net present value (DNPV), which decouples the risk associated with the project from the value of money over time. This valuation methodology was applied to a photovoltaic solar energy self-generation project in Colombia. In this study, the results obtained through the DNPV was equivalent to 2.3-fold the value obtained by means of NPV. Thus, many renewable energy projects can become undervalued since traditional methods mistakenly associated a discount rate that includes a very high risk premium and that in many occasions it is more related to the sources of financing of the project instead of representing the risk component that it has.

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DNPV: a valuation methodology for infrastructure and Capital investments consistent with prospect theory

Cited by 9 publications

References 44 publications

Cost–Benefit Analysis of Investments in Air Traffic Management Infrastructures: A Behavioral Economics Approach

Cost–Benefit Analysis of Investments in Air Traffic Management Infrastructures: A Behavioral Economics Approach

Optimizing Concession Agreement Terms and Conditions: Stakeholder Interest Alignment in the Petrochemical Sector

Evaluation of Investment Projects in Photovoltaic Solar Energy Using the DNPV Methodology

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