Hedging against uncertainty in new technology development: the case of direct steelmaking

Abstract

Companies considering a major facility investment face a dilemma if a new and superior process technology may be available in the near future. Should the new technology be successfully developed, existing technology may be rendered obsolete, making the investment proposed for today a poor decision in retrospect. On the other hand, waiting for the new technology to become available may entail lost profits today as a result of inadequate capacity or poor product quality. In addition, the company could be vulnerable if the availability of the new technology is delayed or, even worse, if the development program is a failure. In this paper we show how a multiperiod stochastic programming model may be used to develop possible hedging strategies for dealing with such a situation, illustrating our ideas with a representative real-world example-direct steelmaking, For this case study, we find that planning on the basis of either scenario, success or failure, is a poor strategy compared to the available compromise solutions.

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