Real options as an incentive scheme for managing revenues in transportation infrastructure projects

Abstract

Revenue management for transportation infrastructure projects is challenging due to the huge amount of capital involved and the deep uncertainty inherent in long service lifetimes. Public–private partnerships (PPPs) provide a way for the public sector to acquire financial resources and transfer risks in such projects. This paper proposes a real options (ROs) incentive to improve revenue management for PPPs. In addition to the initial concession, the public sector offers an RO incentive to the private sector at a premium. Designed in an option game framework, the RO incentive captures the behaviour dynamics of option owner and writer, thus producing an optimal strategy for revenue management that cannot be derived from the standard RO valuation. The RO incentive stimulates the private sector to increase its investment in quality improvement, makes a short concession attractive to the private sector and allows both parties to better manage revenues under high uncertainty.