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Real Options Conference 2024

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Investment and Financing Decisions Under Constrained Demand In Infrastructure Projects

This paper examines the effects of an output cap and an upper reflecting barrier on demand. The output cap arises from the finite output capacity of the firm, leading to a portion of the potential demand remaining unsatisfied. Simultaneously, the reflecting barrier captures the realistic scenario in which part of the unsatisfied demand opts for alternative consumption choices. This model is particularly relevant in the context of infrastructure projects, such as airports. The main findings reveal that an upper reflecting barrier significantly affects leverage decisions, while its impact on investment timing decisions is less pronounced. The effects become more prominent under higher uncertainty. When the option to expand exists, eliminating both the cap and the barrier, initial investment accelerates and leverage ratios and credit spreads decrease.

Paulo J. Pereira
University of Porto

Artur Rodrigues
University of Minho


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