Project CEMAPRE internal
| Title | Sustainable harvesting: a real options approach |
| Participants | Nuno Brites (Principal Investigator), João Janela, Miguel Reis |
| Summary | "Traditionally, the optimal harvesting strategy is defined in terms of fishing effort and is based on the Expected Net Present Value (ENPV) rule. The ENPV rule asserts that an investment project should be taken up only if the present value of the cash flows from the project is greater than or equal to the total costs associated with the project. For calculating the present value, future cash flows are discounted at a risk-adjusted discount rate reflecting the opportunity cost of capital; the opportunity cost is the expected rate of return that could be earned by undertaking another investment bearing a risk similar to the project under consideration. But, in practice, it is not always possible to correctly measure the opportunity cost of a project, and this undermines the validity of the ENPV rule as a decision-making tool for an investment opportunity. The optimal policy obtained in previous work is based on the ENPV rule. Following this approach, the harvester calculates the expected flow of profit coming from harvesting and discounts it to the initial time in order to determine the expected net present value of the harvesting project; here, the discount rate is fixed arbitrarily. However, the above-mentioned calculations are based on the expected values of the stochastic variables underlying harvesting, and as the uncertainty is gradually resolved, these values may turn out to be different than expected. Therefore, it might be beneficial for the harvester to change the initial decisions. This option of altering the operating decisions during the life of the investment project is not considered in the ENPV rule; it treats the investment on a now-or-never basis and ignores the opportunity to wait before investing. Consequently, the managerial flexibility to revise later decisions is not accounted for. These issues have been discussed in great detail by a large number of researchers, who have put forward real options theory for evaluating capital investment projects." |