Real Option Approach on Infrastructure Investment in Vietnam: Focused on Smart City Project

Abstract

The electricity shortage, the natural disasters and the emission of greenhouse gasses have been challenges that Vietnam has to confront to sustain high economic growth in the long-term. We are moving forward to “Smart City” project in Japan that brings a better life for citizens through public services, utilization of resources and less impact onenvironment. However, this project requires huge investment of financial amounts and long term to profitability under uncertainties. Therefore, real options analysis is used as a theoretical framework to better account for the technological and market uncertainties and irreversibility that impact the investment and innovation decisions of firms. This paper shows how to use the quadranomial approach for two sources of uncertainty and with compound rainbow options. The specific one is if the investors decide to invest in R&D of the project, they will get the different carbon credit values created from this project changing at the same volatility of project’s products in each investing node through Clean Development Mechanism. From this volatility estimated from fuel price data and two different net present values of project, this paper created the value-based event tree to value research and development (R&D) project which influences the dynamic shaping of investment decisions of firms in the green industry.