Professional Documents
Culture Documents
Cash Flow Estimation and Risk Analysis
Cash Flow Estimation and Risk Analysis
CHAPTER 8
Cash Flow Estimation and Risk
Analysis
Estimating cash flows:
Relevant cash flows
Working capital treatment
Inflation
Risk Analysis: Sensitivity Analysis,
Scenario Analysis, and Simulation
Analysis
8-2
Proposed Project
Basis = Cost
+ Shipping
+ Installation
$240,000
8 - 10
Inflation (Continued)
Year 3 Year 4
Init. Cost 0 0
Op CF $93,967 $88,680
NOWC CF -$956 $32,783
Salvage CF 0 $15,000
Net CF $93,011 $136,463
8 - 22
0 1 2 3 4
0 1 2 3 4
Calculator Solution
0 1 2 3 4
Cumulative:
(270) (164) (44) 49 185
Stand-alone risk
Corporate risk
Market (or beta) risk
8 - 29
Probability Density
Flatter distribution,
larger , larger
stand-alone risk.
0 E(NPV) NPV
Such graphics are increasingly used
by corporations.
8 - 31
2. Corporate Risk:
Reflects the projects effect on
corporate earnings stability.
Considers firms other assets
(diversification within firm).
Depends on:
projects , and
its correlation, r, with returns on
firms other assets.
Measured by the projects corporate
beta.
8 - 32
Profitability
Project X
Total Firm
Rest of Firm
0 Years
1. Project X is negatively correlated to
firms other assets.
2. If r < 1.0, some diversification
benefits.
3. If r = 1.0, no diversification effects.
8 - 33
3. Market Risk:
Reflects the projects effect on a
well-diversified stock portfolio.
Takes account of stockholders
other assets.
Depends on projects and
correlation with the stock market.
Measured by the projects market
beta.
8 - 34
Sensitivity Analysis
88 Salvage
(More...)
8 - 46
Simulation Example
Assume a:
Normal distribution for unit sales:
Mean = 1,250
Standard deviation = 200
Triangular distribution for unit
price:
Lower bound = $160
Most likely = $200
Upper bound = $250
8 - 48
Simulation Process
(More...)
8 - 54