Investment analysis for capacity management based on real options

Tony Rosqvist, Minna Räikkönen, Kari Komonen

    Research output: Chapter in Book/Report/Conference proceedingConference article in proceedingsScientificpeer-review

    Abstract

    Investment portfolio management in the capital-intensive industry is a challenging task. It is essentially decision-making under uncertainty: on one hand the market outlook is uncertain due to e.g. possible price fluctuations of raw material, technological break-through, and competitive position, on the other hand the production system is aging increasing the uncertainty regarding the future productivity of the plant. One way to deal with uncertainty is the active planning of real options related to managing production assets. A method for assessing real options in the context of capacity management is presented in the paper. The method divides the investment planning horizon into two market outlook periods. The first period represents the current, emergent market situation for which real options, planned in the previous time period, may be optimally exercised, thus optimising production capacity according to demand. The second market outlook period represents an uncertain production environment for which real options can be planned, based on demand forecasts. The rotation of the periods is continuous, each entailing planning and execution of real options according to demand forecasts and the gradually resolving uncertainty as future becomes present. The method is applicable in spreadsheet programs which support Monte Carlo simulation. A worked example is presented with simulated distributions of revenues related to investment portfolios including real options. The main objective of the paper is, however, to promote real options thinking related to dynamic capacity management.
    Original languageEnglish
    Title of host publicationProceedings of the 2nd World Congress on Engineering Asset Management and the 4th International Conference on Condition Monitoring, WCEAM CM 2007
    Place of PublicationNorthampton, UK
    Publication statusPublished - 2007
    MoE publication typeA4 Article in a conference publication
    Event2nd World Congress on Engineering Asset Management (EAM) and 4th International Conference on Condition Monitoring - Harrogate, United Kingdom
    Duration: 11 Jun 200714 Jun 2007

    Conference

    Conference2nd World Congress on Engineering Asset Management (EAM) and 4th International Conference on Condition Monitoring
    CountryUnited Kingdom
    CityHarrogate
    Period11/06/0714/06/07

    Fingerprint

    Capacity management
    Real options
    Investment analysis
    Uncertainty
    Demand forecast
    Investment portfolio
    Planning
    Productivity
    Industry
    Spreadsheet
    Raw materials
    Portfolio management
    Monte Carlo simulation
    Revenue
    Production capacity
    Investment planning
    Fluctuations
    Decision making under uncertainty
    Assets

    Keywords

    • capacity management
    • real option
    • investment portfolio

    Cite this

    Rosqvist, T., Räikkönen, M., & Komonen, K. (2007). Investment analysis for capacity management based on real options. In Proceedings of the 2nd World Congress on Engineering Asset Management and the 4th International Conference on Condition Monitoring, WCEAM CM 2007 Northampton, UK.
    Rosqvist, Tony ; Räikkönen, Minna ; Komonen, Kari. / Investment analysis for capacity management based on real options. Proceedings of the 2nd World Congress on Engineering Asset Management and the 4th International Conference on Condition Monitoring, WCEAM CM 2007. Northampton, UK, 2007.
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    Rosqvist, T, Räikkönen, M & Komonen, K 2007, Investment analysis for capacity management based on real options. in Proceedings of the 2nd World Congress on Engineering Asset Management and the 4th International Conference on Condition Monitoring, WCEAM CM 2007. Northampton, UK, 2nd World Congress on Engineering Asset Management (EAM) and 4th International Conference on Condition Monitoring, Harrogate, United Kingdom, 11/06/07.

    Investment analysis for capacity management based on real options. / Rosqvist, Tony; Räikkönen, Minna; Komonen, Kari.

    Proceedings of the 2nd World Congress on Engineering Asset Management and the 4th International Conference on Condition Monitoring, WCEAM CM 2007. Northampton, UK, 2007.

    Research output: Chapter in Book/Report/Conference proceedingConference article in proceedingsScientificpeer-review

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    N2 - Investment portfolio management in the capital-intensive industry is a challenging task. It is essentially decision-making under uncertainty: on one hand the market outlook is uncertain due to e.g. possible price fluctuations of raw material, technological break-through, and competitive position, on the other hand the production system is aging increasing the uncertainty regarding the future productivity of the plant. One way to deal with uncertainty is the active planning of real options related to managing production assets. A method for assessing real options in the context of capacity management is presented in the paper. The method divides the investment planning horizon into two market outlook periods. The first period represents the current, emergent market situation for which real options, planned in the previous time period, may be optimally exercised, thus optimising production capacity according to demand. The second market outlook period represents an uncertain production environment for which real options can be planned, based on demand forecasts. The rotation of the periods is continuous, each entailing planning and execution of real options according to demand forecasts and the gradually resolving uncertainty as future becomes present. The method is applicable in spreadsheet programs which support Monte Carlo simulation. A worked example is presented with simulated distributions of revenues related to investment portfolios including real options. The main objective of the paper is, however, to promote real options thinking related to dynamic capacity management.

    AB - Investment portfolio management in the capital-intensive industry is a challenging task. It is essentially decision-making under uncertainty: on one hand the market outlook is uncertain due to e.g. possible price fluctuations of raw material, technological break-through, and competitive position, on the other hand the production system is aging increasing the uncertainty regarding the future productivity of the plant. One way to deal with uncertainty is the active planning of real options related to managing production assets. A method for assessing real options in the context of capacity management is presented in the paper. The method divides the investment planning horizon into two market outlook periods. The first period represents the current, emergent market situation for which real options, planned in the previous time period, may be optimally exercised, thus optimising production capacity according to demand. The second market outlook period represents an uncertain production environment for which real options can be planned, based on demand forecasts. The rotation of the periods is continuous, each entailing planning and execution of real options according to demand forecasts and the gradually resolving uncertainty as future becomes present. The method is applicable in spreadsheet programs which support Monte Carlo simulation. A worked example is presented with simulated distributions of revenues related to investment portfolios including real options. The main objective of the paper is, however, to promote real options thinking related to dynamic capacity management.

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    Rosqvist T, Räikkönen M, Komonen K. Investment analysis for capacity management based on real options. In Proceedings of the 2nd World Congress on Engineering Asset Management and the 4th International Conference on Condition Monitoring, WCEAM CM 2007. Northampton, UK. 2007