Economic evaluation methodologies for renewable energy projects

Abstract

Typically, the economic analysis of Renewable Energy Projects (REP) has been assessed considering Classical Methodologies of Investment Analysis (CMIA) in which only a few set of indicators are included, highlighting the Payback, Net Present Value and Internal Rate of Return. This excessive reliance on CMIA has been criticized because it neglects managerial flexibility, and it may end up leading to the project's undervaluation. This paper attempts firstly, to identify and describe the complementarity among economic evaluation methodologies for REP. Secondly, a novel framework is proposed for conducting the economic analysis to help decision-makers in identifying the most suitable methodology before proceeding with the investment. The findings of the study suggest that CMIA may be suitable for the cases of projects presenting low volatility. However, the analysis should be supplemented by a new set of indicators for projects with medium or high volatility. The Multi-Index Methodology (MIM), the Extended Multi-Index Methodology (EMIM) and the Real Options Analysis (ROA) are proposed to increase the investors’ perception towards both the project’s profitability and risk and to account for flexibility. The application of the proposed framework is demonstrated for the case of a Small Hydropower Plant (SHP) investment project. The outcomes of this paper also include the opportunities for decision-makers to flexibly respond to changes in the business and economic market using the proposed conceptual framework.

Keywords

• investment appraisal
• risk analysis
• decision-making process
• real options theory
• renewable energy