Economics of Wave Power

  NPV and Real Options Value in dependence on the support tariffs per MWh of wave energy generated (Source: FCN/C. Ortlieb; FCN Study Thesis)

New technologies promise to harness the energy from the waves of the sea, thereby offering a new, inexhaustible source of energy. The waters around the UK provide enormous wave potential and about 8 TWh/year could be yet generated from waves by 2020. This makes UK waters one of the largest offshore wave energy resources worldwide that could satisfy a significant proportion of the total UK energy demand. Wave energy has come into the focus of the energy sector as well as policy makers. Despite of its potential, the wave energy industry in the UK is still in its infancy.

The aim of this research project is to investigate the economic viability of a hypothetical wave energy project by applying three different investment appraisal criteria: (1) traditional net present value (NPV), (2) expected NPV and (3) real options analysis (ROA). Traditional NPV is most applicable when future project cash flows can be forecasted with high accuracy. A Monte Carlo simulation, used to determine expected NPV, is suitable when the project is exposed to high uncertainty in its future cash flows. To further approximate to investment decisions in reality, we apply ROA to determine the project value when the option to take decisions after the project started is included. The investment appraisal is applied to a fictional 200 MW wave energy farm that uses an innovative wave energy technology developed by the Swedish developer Ocean Harvest Technology (OHT).

Based on cost data for a 100 kW prototype device provided by OHT, we develop two scenarios and apply the mentioned investment criteria on both. In scenario 1, the farm is built using only devices with a rated power of 100 kW. For scenario 2, we scale up the rated power per device to 500 kW, assuming that the costs develop in accordance to experiences gathered from the wind energy industry. The infancy of the prototype is taken into account by the consideration of learning effects applied to initial data. The focus of our research is mainly on (1) the definition of risks that are related to wave energy projects and the positive or negative impact they have on forecasted cash flows and (2) the investigation of the influence that flexibility in decision-making has on the present project value.

All three valuation approaches lead to a positive project value. The traditional NPV approach returns the lowest project value for both scenarios. Project values increase with the complexity of the valuation approach. The option to gradually expand installed capacity up to 200 MW, which includes the flexibility to react on positive or negative developments of project-relevant parameters, raises the project value many times over and returns the highest project value for both scenarios. Obviously, the calculated results strongly depend on the input parameters. This fact has been accounted for with the help of a sensitivity analysis (cf. Figure). Scenario 2 is more favorable than scenario 1 and the prevailing support tariff in Scotland is sufficient to make wave energy projects economically viable and hence an attractive investment opportunity.

References

Madlener R., Ortlieb C. (2012). An Investigation of the Economic Viability of Wave Energy Technology: The Case of the Ocean Harvester, FCN Working Paper No. 9/2012, Institute for Future Energy Consumer Needs and Behavior, RWTH Aachen University, October.