Ethanol Plant Investment using Net Present Value and Real Options Analyses
Schmit, Todd M.; Luo, Jianchuan; Tauer, Loren W.
A real option analysis of dry-grind corn ethanol plants compared to a standard net present value analysis (NPV) shows that the option values increase entry prices and lower exit prices of investment and disinvestment considerably. For a large plant, the gross margin of ethanol price over the corn price for a gallon of ethanol using NPV shows that entry will occur with a $0.45 margin and shutdown will occur at a $0.38. Under a real options framework, the margins for entry and exit become $1.33 and $0.13, respectively. Under baseline conditions, a large operating plant would become mothballed at $0.18 and reactivate if margins rebounded to $0.66. Growth in the variability of ethanol margins will delay new plant investments, as well as exits of currently operating facilities.
WP 2008-14 July 2008JEL Classification Codes: D21; D81; Q4
Charles H. Dyson School of Applied Economics and Management, Cornell University