Statergy mgmt

Implementation of Risk Management Strategies ,[object Object],[object Object],[object Object],[object Object],[object Object],[object Object]

Incentives for Risky Decisions ,[object Object],Sure Thing Risky Alternative Success .5 Failure .5 Manager’s Outcomes Promotion Fired Pat on Back Company’s Outcomes $1,000,000 -$100,000 $100,000

Decentralization and “Gambler’s Ruin” ,[object Object],[object Object]

[object Object],[object Object],[object Object],[object Object],[object Object],Success (0.2) Failure (0.8) $10,000,000 -$1,000,000 EV = $1,200,000

Establishing Appropriate Incentives ,[object Object],[object Object],[object Object],[object Object],[object Object],[object Object]

Limitations of Expected Value ,[object Object],[object Object],[object Object]

EMV - Unlimited Pool of Capital? ,[object Object],[object Object],[object Object],[object Object],[object Object],[object Object],[object Object],[object Object],[object Object],[object Object]

Unlimited Pool of Capital? ,[object Object],[object Object],[object Object],[object Object],[object Object]

EMV - The Firm is Risk Neutral? ,[object Object],[object Object],[object Object],[object Object],[object Object],[object Object],[object Object],[object Object],[object Object]

EV - Failure to Provide Guidance on Limiting Downside Exposure ,[object Object],[object Object],[object Object],0.50 0.80 $200M -$40M $88M -$20M Prospect B Prospect A 0.20 0.50

Risk Methods Used in Making Decisions by Energy Companies (J. Battle, 1986)

A Comment on Risk-Adjusted Discount Rates ,[object Object],[object Object],[object Object],[object Object],[object Object],[object Object],[object Object],[object Object]

[object Object],Long Life Venture .2 .8 -10 - 100/(1+ i) 3 + 500/(1+ i ) 10 -10 ($MM) Short Life Venture .2 .8 -10 + 60/1+ i -10 ($MM) Short Life Long Life Discount Rate NPV if Success NPV if Success 10% $44.5 MM $107.0 MM 20% $40.0 MM $ 12.8 MM ,[object Object]

Preference or Expected Utility Theory ,[object Object],[object Object],[object Object],[object Object]

Attitudes Toward Risk ,[object Object],[object Object],[object Object]

Attitudes Toward Risk -- continued ,[object Object],[object Object],[object Object],[object Object],[object Object]

Assessing a Utility Function ,[object Object],[object Object],[object Object],[object Object]

The Session ,[object Object],[object Object],[object Object],[object Object],[object Object]

The Session -- continued ,[object Object],[object Object],[object Object],[object Object],[object Object]

The Session -- continued ,[object Object],[object Object]

Comments on Preference Assessment ,[object Object],[object Object],[object Object],[object Object]

[object Object],[object Object],[object Object],[object Object],[object Object],[object Object],[object Object],[object Object],[object Object],[object Object],[object Object],[object Object],[object Object],[object Object],Step 4. Find the risk premium. Risk Premium = EV - CEQ $600 = $1500 - $900

[object Object],[object Object],A B .5 .7 .1 .4 .3 $10,000 $4,000 $0 $8,000 $2,000 EV = $6600 EV = $6200

Example 6.9 Incorporating Attitudes Toward Risk

Background Information ,[object Object],[object Object],[object Object],[object Object]

Background Information -- continued ,[object Object],[object Object],[object Object]

Risk Aversion - Functional Forms ,[object Object],[object Object],[object Object],[object Object],[object Object],[object Object]

[object Object],[object Object],[object Object],Expected Value = $5,000 Expected Utility = 0.32 CEQ = $2,800 Risk Premium = $2,200 where, p = 0.5 1 - p = 0.5 $20,000 -$10,000

[object Object],p = 0.5 1 - p = 0.5 $20,000 -$10,000 (A) $30,000 $0 (B) $40,000 $10,000 (C) $50,000 $20,000 (D) Expected Value: Expected Utility: Certainty Equivalent: Risk Premium: ,[object Object],[object Object],$5,000 0.32 $2,800 $2,200 $15,000 0.52 $12,800 $2,200 $25,000 0.68 $22,800 $2,200 $35,000 0.82 $32,800 $2,200

Exponential Utility ,[object Object],[object Object],[object Object]

Exponential Utility -- continued ,[object Object],[object Object],[object Object],[object Object],[object Object]

Exponential Utility -- continued ,[object Object],[object Object],[object Object]

Solution ,[object Object],[object Object],[object Object],[object Object],[object Object]

The Decision Tree ,[object Object],[object Object],[object Object]

VENTURE.XLS ,[object Object],[object Object],[object Object]

Interpretation ,[object Object],[object Object],[object Object]

Interpretation -- continued ,[object Object],[object Object],[object Object],[object Object],[object Object]

Certainty Equivalents ,[object Object],[object Object],[object Object],[object Object]

Decision Tree with Certainty Equivalents

[object Object],[object Object],[object Object],[object Object],[object Object],[object Object],Project B Project A .4 .1 .3 .2 $700,000 $100,000 -$50,000 -$450,000 .4 .1 .3 .2 $800,000 $200,000 -$100,000 -$500,000 $0 Invest Do not Invest EV = $210,000 at 100% EV(B) = $185,000 EV(A) = $210,000

[object Object],Project B Project A .4 .1 .3 .2 $700,000 $100,000 -$50,000 -$450,000 .4 .1 .3 .2 $800,000 $200,000 -$100,000 -$500,000 $0 Invest Do not Invest CEQ = $0 Do not Invest CEQ(B) = -$30,000 CEQ (A) = -$85,000 ...and analyze our investment problem on the basis of certainty equivalents. ,[object Object]

[object Object],[object Object],[object Object],[object Object]

Measuring Risk Tolerance ,[object Object],[object Object],[object Object],[object Object],[object Object],[object Object],[object Object],[object Object]

SSG Utility Function Worksheet ,[object Object],[object Object],[object Object],[object Object],[object Object],[object Object],[object Object],[object Object],[object Object],[object Object],[object Object]

RT & Analysis of Past Decisions ,[object Object],[object Object],[object Object],[object Object],[object Object],[object Object],[object Object],[object Object]

Risk Tolerance & Financial Measures ,[object Object],[object Object],[object Object],[object Object],[object Object]

Risk Tolerance (RT) And Firm Performance ,[object Object],[object Object],[object Object],[object Object],[object Object],[object Object],[object Object],[object Object]

Corporate RT - An Industry Look ,[object Object],[object Object],[object Object],[object Object],[object Object],[object Object],[object Object],[object Object],[object Object],[object Object]

Risk Tolerance versus Firm Size ,[object Object],7.6 8.0 8.4 8.8 9.2 9.6 10.0 10.4 10.8 Log (RT) vs. Log (SMCF) Log (RT) Year: 1983-1990 8.6 8.2 7.8 7.4 7.0 6.6 6.2 5.8 5.4 Regression Line Log (SMCF) Observed Data

Risk Tolerance - Comparing Firms ,[object Object],[object Object],[object Object],[object Object],[object Object]

Risk Tolerance Ratio ,[object Object],[object Object],[object Object],[object Object],[object Object],[object Object]

RTR - A Relative Measure of Risk ,[object Object],[object Object],[object Object],[object Object],[object Object],[object Object],[object Object],[object Object],[object Object],[object Object]

RTR - The Performance Implications ,[object Object],[object Object],[object Object],[object Object],[object Object],[object Object],[object Object],[object Object],[object Object],[object Object]

Summary of Concepts Regarding the Estimation of a Risk Attitude ,[object Object],[object Object],[object Object],[object Object]

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