Microgrid investment under uncertainty: a real option approach using closed form contingent analysis

Abstract

The traditional net present value approach to investment in microgrid assets does not take into account the inherent uncertainties in fuel prices, cost of technology, and microgrid load profile. We propose a real option approach to microgrid investment, which includes solar photovoltaic (PV) and gas-fired generation assets. Likewise the (n, m) exchange literature in real option analysis, we examine cases with interdependency and independency of fuel price and the cost of PV technology. This work, however, makes a major contribution by the way of introducing a new parameter, which is defined as the elasticity of the option value to prices and is used in the formulation of closed form solutions. We further extend the (1, 1) exchange problem here to include operational flexibility of microgrid, such that optimal switching between investment, suspension and re-activation can be examined.

Electric Power Industry: Operational and Public Policy Challenges and Opportunities

“…, Takizawa and Suzuki (2004), Thompson et al (2004), Tseng and Lin (2007), Boomsma et al (2012), Thompson (2013), Farzan et al (2015), Hu et al (2015), Bruno et al (2016), Drake et al (2016), Hach et al (2016, Kettunen and Bunn (2016), and Welling ( (2008), Hunt et al (2013), Mattiussi et al (2014), Bertsch and Fichtner (2015), and Pinto et al (2015)…”

Real Options in Operations Research: A Review

“…Similarly, Tseng and Lin (2007) use a lattice framework of correlated electricity and fuel prices to value a power plant whose generating units can be committed to production on an hourly basis. Farzan et al (2015) analyze the 25 Clark and Easaw (2007) propose that the optimal access price is the certainty equivalent of expected risky project cash flows that rewards the network provider for undertaking the risky infrastructure investment.…”

Photovoltaic Solar Energy in Forest Nurseries: A Strategic Decision Based on Real Options Analysis

“…The analysis of real options provides a trade-off in time between the benefits and costs arising from the uncertainties and managerial flexibilities inherent to investment projects. By allowing managers to modify initial planning in response to market information, real options reduce the number of wrong decisions as they capture new information and opportunities, limit investment risks, and have become a methodology increasingly accessible to forest managers [34][35][36][37][38].…”