Scandinavian Working Papers in Economics

Discussion Papers,
Norwegian School of Economics, Department of Business and Management Science

No 2016/10: Sequential Investment in Emerging Technologies under Policy Uncertainty

Lars Hegnes Sendstad () and Michail Chronopoulos ()
Additional contact information
Lars Hegnes Sendstad: Dept. of Business and Management Science, Norwegian School of Economics, Postal: NHH , Department of Business and Management Science, Helleveien 30, N-5045 Bergen, Norway
Michail Chronopoulos: School of Computing, Engineering and Mathematics, University of Brighton, Postal: University of Brighton, School of Computing, Engineering and Mathematics, Cockcroft Building, Lewes Road, Brighton, BN2 4GJ, United Kingdom

Abstract: Investment in emerging technologies is particularly challenging, since, apart from uncertainty in revenue streams, firms must also take into account both policy uncertainty and the random arrival of innovations. We assume that the former is reflected in the sudden provision and retraction of a support scheme, which takes the form of a fixed premium on top of the output price. Thus, we develop an analytical framework for sequential investment in order to determine how price, technological, and policy uncertainty interact to affect the decision to invest sequentially in successively improved versions of an emerging technology. We show that greater likelihood of subsidy retraction lowers the incentive to invest, whereas greater likelihood of subsidy provision facilitates investment. However, embedded options to invest in improved technology versions raise the value of the investment opportunity, thereby mitigating the impact of subsidy retraction and making the impact of subsidy provision more pronounced. Additionally, by allowing for sequential policy interventions, we find that the impact of policy uncertainty becomes less pronounced as the number of policy interventions increases.

Keywords: Investment analysis; real options; policy uncertainty; technological uncertainty

JEL-codes: G00; G11

30 pages, June 14, 2016

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