Risk Analysis

PROJECT RISK ANALYSIS – The Overall Picture Stand alone risk is measured by  Sensitivity Analysis  Scenario Analysis  Monte Carlo Simulation  Decision Tree Analysis

Stand Alone Risk of the Project is denoted by standard deviation of the project returns =

P

Contributes to the

Contribution of Market risk is measured by  Pure Play Method  Accounting Beta Method

Application of the CAPM concepts to analyze the effects of market risk of the project on market risk of the firm

Market risk of the firm. The Contribution (denoted by bP.M) is measured by regressing the returns on project against the returns on the stock market index. Mathematically

Corporate risk of the firm. The Contribution (denoted by bP.F) is measured by regressing the returns on project against the returns on the forms other assets without the project. Mathematically

 bP.M   P  M

  bP.F   P .rP.F  F 

 .rP.M 

Market risk of the project affects the market beta

bFirm  w1bOA  w2 bP.M

has effects on 1.

Cost of Equity

2.

Stock Price

k S  k RF  (k M  k RF ).bFirm

D1 kS  g WACC  w1 k d (1  T )  w2 (k S ork ce ) ^

3.

of the firm and therefore also

PO 