Product Remanufacturing: A Real Options Approach

Abstract

In this paper, we consider a firm that leases a single product to a service provider under the assumption that this firm can decide when to replace the leased product and remanufacture it. The cost of remanufacturing is assumed to follow a geometric Brownian motion process, which is characterized by its drift and volatility. Under these assumptions, we construct and analyze a basic real options model for product remanufacturing. Specifically, we derive the remanufacturing cost threshold at which the remanufacturing option is exercised. We also perform extensive sensitivity analysis to examine how the remanufacturing cost uncertainty and other factors influence the remanufacturing decision. Furthermore, we present an extension where a remanufacturing subsidy and a disposal fee by the government are considered. The impacts of these economic instruments on the remanufacturing decision as well as on the environment are investigated.

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