Managing Project Risks: Prof M V Monica
Managing Project Risks: Prof M V Monica
Prof M V Monica
[email protected]
http://www.solutionsxgen.blogspot.com/
Managing Project Risks
Project D
Project C
Project B
Project A
2000 2001 2002 2003 2004
Recall: Cost Analysis
• The life of the project is usually longer
than one year, so capital budgeting
decisions consider revenues and costs
over relatively long periods.
Recall: Cost Analysis
• Life-cycle costing accumulates revenues
and costs on a project-by-project basis.
• This accumulation extends the accrual
accounting system that measures income
on a period-by-period basis to a system
that computes cash flow or income over
the entire project covering many
accounting periods.
Project Impacts Value of the Firm
Investing and Balance Sheet
Financing Income Statement
Decisions
70.00
60.00
50.00
40.00
30.00
20.00
10.00
0.00
6 6 7 7 8 8 9 9 0 0 1 1 2 2 3 3 4 4 5 5 6 6 7 7
r -9 ct-9 r-9 ct-9 r-9 ct-9 r-9 ct-9 r-0 ct-0 r-0 ct-0 r-0 ct-0 r-0 ct-0 r-0 ct-0 r-0 ct-0 r-0 ct-0 r-0 ct-0
Ap O Ap O Ap O Ap O Ap O Ap O Ap O Ap O Ap O Ap O Ap O Ap O
RPL
Commissioned
1999-2000
MRPL
April 1991: approval for
setting up 3 MMTPA @
Rs.11.62 billion
Commissioning
postponed from 1992
due to cost escalations
Finally Commissioned in
1996 @Rs 23.93 billion
Capacity raised to 9
MMTPA addl cost Rs 37
billion
4/
3
6/ 0/ 1
1000
2000
3000
4000
5000
6000
0
2 9
9/ 8/ 1 96
3 9
12 0/ 96
/2 19
3/ 4 /1 96
3 9
6/ 1/ 1 96
3 9
12 0/ 97
/3 19
3/ 1 /1 97
31 9
6/ / 1 97
3 9
9/ 0/ 1 98
3
12 0/ 998
/3 19
9
3/ 1 /1 8
3 9
6/ 1/ 1 98
3 9
9/ 0/ 1 99
3 9
12 0/ 99
/3 19
3/ 0 /1 99
6/ 8/ 2 01
28 00
6/ / 2 2
2 0
9/ 8/ 2 02
30 00
9MMTPA in 1999 /2 2
00
2
0
10
20
30
40
50
60
70
billion;Comm:1996;Finally to
RPL
MRPL
be st up 1992 3 [email protected]
BSE-30
Liquidity
Financial Manager
(Ability to meet
Short-Term Creditor
short-term obligations)
Cross Section
(Performance relative to Activity
other firms in the Financial Manager
(Efficiency of use of
industry)
resources)
Certainty Uncertainty
Investment risk
Portfolio Risk
Risk Mgt
Formal Process by which risk factors are
Systematically
• Identified
• Assessed and
• Provided for
Decision Analysis
Decision Alternatives
• Your options - factors that you have control over
• A set of alternative actions - We may chose whichever we please
States of Nature
• Possible outcomes – not affected by decision.
• Probabilities are assigned to each state of nature
Certainty
• Only one possible state of nature
• Decision Maker (DM) knows with certainty what the state of nature will be
Ignorance
• Several possible states of nature
• DM Knows all possible states of nature, but does not know probability of
occurrence
Risk
• Several possible states of nature with an estimate of the probability of each
• DM Knows all possible states of nature, and can assign probability of
occurrence for each state
Decision Making Under Ignorance
• LaPlace-Bayes
– All states of nature are equally likely to occur .
– Select alternative with best average payoff
• Maximax
– Evaluates each decision by the maximum possible return
associated with that decision
– The decision that yields the maximum of these maximum
returns (maximax) is then selected
• Maximin
– Evaluates each decision by the minimum possible return
associated with the decision
– The decision that yields the maximum value of the minimum
returns (maximin) is selected
• Minmax Regret
– The decision is made on the least regret for making that choice
– Select alternative that will minimize the maximum regret
LaPlace-Bayes
Strategy State of Nature LaPlace-
Demand Bayes
criterion
Low(50 Med(100 High(150 Mean
units) units) units)
Build 50 400000 400000 400000 400,000
State of Nature
Maximax
Demand Criterion
Alternative
Actions
Low (50 units) Medium (100 units) High (150 units) Max
State of Nature
Maximin
Demand Criterion
Alternative
Actions
Low (50 units) Medium (100 units) High (150 units) Min
• The EMV criterion chooses the decision alternative which has the highest
EMV. We'll call this EMV the Expected Value Under Initial Information (EVUII)
to distinguish it from what the EMV might become if we later get more
information. Do not make the common student error of believing that the EMV
is the payoff that the decision maker will get. The actual payoff will be the for
that alternative (j) Vi,j and for the State of Nature (i) that actually occurs.
Decision Making Under Risk
• One way to evaluate the risk associated with an Alternative
Action by calculating the variance of the payoffs. Depending
on your willingness to accept risk, an Alternative Action with
only a moderate EMV and a small variance may be superior
to a choice that has a large EMV and also a large variance.
The variance of the payoffs for an Alternative Action is
defined as
• Variance = (ERi - Rij)2 P(Sj)
State of Nature
Expected
Demand Return
Alternative
Actions
Low (50 units) Medium (100 units) High (150 units) ER
Decision Science
• Sensitivity analysis
• Scenario Analysis
• Simulation
• Decision tree