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Operational Flexibility To Expand Or Contract Capacity Investment Under Model Uncertainty

This paper analyzes a firm's capacity expansion and reduction problem under uncertainty. The firm expands (resp., contracts) the capacity if the output price is sufficiently large (resp., low). Consequently, the firm has two types of operational flexibility. The firm faces uncertainty about the output price and can not uniquely identify its distribution. The firm treats the price dynamics as an approximation of its actual dynamics. Then, the firm decides its managerial strategy under model uncertainty. To deal with the model uncertainty, we employ the robust control approach. We reveal the effect of both sides' operational flexibility on the firm's decision-making under model uncertainty.