Abstract
Among a comprehensive scope of mitigation measures for climate change, CO2 capture and sequestration (CCS) plays a potentially significant role in industrialised countries. In this paper, we develop an analytical real options model that values the choice between two emissions-reduction technologies available to a coal-fired power plant. Specifically, the plant owner may decide to invest in either full CCS (FCCS) or partial CCS (PCCS) retrofits given uncertain electricity, CO2, and coal prices. We first assess the opportunity to upgrade to each technology independently by determining the option value of installing a CCS unit as a function of CO2 and fuel prices. Next, we value the option of investing in either FCCS or PCCS technology. If the volatilities of the prices are low enough, then the investment region is dichotomous, which implies that for a given fuel price, retrofitting to the FCCS (PCCS) technology is optimal if the CO2 price increases (decreases) sufficiently. The numerical examples provided in this paper using current market data suggest that neither retrofit is optimal immediately. Finally, we observe that the optimal stopping boundaries are highly sensitive to CO2 price volatility.
Article PDF
Similar content being viewed by others
Avoid common mistakes on your manuscript.
References
Abadie LM, Chamarro JM (2008) European CO2 prices and carbon capture investments. Energy Econ 30: 2992–3015
Abadie LM, Chamarro JM (2008) Valuing flexibility: the case of an integrated gasification combined cycle power plant. Energy Econ 30: 1850–1881
Adkins R, Paxson D (2008) Optionality in asset renewals, Working paper, Manchester Business School, Manchester, UK
Décamps J-P, Mariotti T, Villeneuve S (2006) Irreversible investment in alternative projects. Econ Theory 28: 425–448
Dixit AK (1993) Choosing among alternative discrete investment projects under uncertainty. Econ Lett 41: 265–268
Dixit AK, Pindyck RS (1994) Investment under uncertainty. Princeton University Press, Princeton
Herbelot O (1992) Option valuation of flexible investments: the case of environmental investments in the electric power industry, PhD thesis, Department of Nuclear Engineering, Massachusetts, Institute of Technology, Cambridge, MA, USA
Hildebrand AN, Herzog HJ (2008) Optimization of carbon capture percentage for technical and economic impact of near-term CCS implementation at coal-fired power plants. In: ‘9th International Conference on green house gas control technologies’, Washington, DC, USA
IPCC: (2005) IPCC special report on carbon dioxide capture and storage. Cambridge University Press, Cambridge
IPCC (2007) Climate Change 2007: Synthesis Report. IPCC, Geneva Switzerland
Laurikka H, Koljonen T (2006) Emissions trading and investment decisions in the power sector: a case study in Finland. Energy Policy 34: 1063–1074
Majd S, Pindyck R (1987) Time to build, option value and investment decisions. J Financial Econ 18: 7–27
Mattheij RMM, Rienstra SW, tenThije Boonkkamp JHM (2005) Partial differential equations: modelling, analysis, computation. Society for Industrial and Applied Mathematics, Philadelphia
ORNL (2009) America’s 10 Energy Challenges. ORNL Review 42(2). http://www.ornl.gov/info/ornlreview/v42_2_09/v42_no2_09review.pdf
Pindyck RS (1999) The long-run evolution of energy prices. Energy J 20: 1–27
Pindyck RS (2002) Optimal timing problems in environmental economics. J Econ Dyn Control 26: 1677–1697
Reinaud J (2003) Emissions trading and its possible impacts on investment decisions in the power sector. IEA Information Paper, International Energy Agency, Paris, France
Swedish Government Budget Bill (2008) Higher carbon dioxide tax for reduced traffic emissions. http://www.regeringen.se/content/1/c6/08/86/13/5e9ed088.pdf
Wickart M, Madlener R (2007) Optimal technology choice and investment timing: A stochastic model of industrial cogeneration vs. heat-only production. Energy Econ 29: 934–952
Author information
Authors and Affiliations
Corresponding author
Additional information
Siddiqui acknowledges the support of the ELDEV project in Trondheim, Norway. We would like to thank participants of the 2009 CMS conference in Geneva, Switzerland for their feedback. This paper has also benefited from the comments received from seminar participants at RWTH Aachen, the Center for Energy and Environmental Policy Research at the Beijing Institute of Technology, the Central Research Institute of Electric Power Industry in Tokyo, Japan, the Institute for Advanced Studies in Glasgow, UK, and the UCL Energy Institute. Finally, the reviews of two anonymous referees and guest editors have greatly enhanced this paper. All remaining errors are the authors’ own.
Rights and permissions
About this article
Cite this article
Heydari, S., Ovenden, N. & Siddiqui, A. Real options analysis of investment in carbon capture and sequestration technology. Comput Manag Sci 9, 109–138 (2012). https://doi.org/10.1007/s10287-010-0124-5
Received:
Accepted:
Published:
Issue Date:
DOI: https://doi.org/10.1007/s10287-010-0124-5