A Compound Up-and-In Call like Option for Wind Projects Pricing

Abstract

Wind energy projects represent, currently, a valid opportunity to support United Nations Sustainable Development Goal 7. However, these projects can appear financially unattractive considering the unfavorable meteorological conditions, uncertain electricity market price, uncertain market demand, unpredictable project performance, riskiness of investment stages, etc. This paper provides a real options pricing model applied for the evaluation of a wind farm project to include the uncertainty that can affect future performance. The methodology proposed uses a compound call option model with two barriers applied, respectively, to the twofold phase framework that would act as a sort of up-and-in barrier. The compound call option model allows us to valuate the managerial flexibility to proceed with the following investment stages depending on the success of the previous ones and, through the barriers, the methodology gives the investor the opportunity to consider some profitability thresholds below, past which the investment should be abandoned. We develop a discrete case methodology by using the binomial approach. A hypothetical case study is shown to implement the theoretical framework by using likely data.