How to overcome
risk factors and uncertainty during project development
is inherent in almost every business more so in capital budgeting decisions as
they involves costs and benefits extending over a long period of time during which
many things can change in unanticipated ways for the sake of expository conveniences,
we consider capital budget had the same risk as those of the existing investments
on the firm.
There are varieties of techniques to handle risks in capital budgeting of the project that fall in two categories
Techniques that consider the standalone risk of a project.
There are several sources of risk in a project. Some of the important risks in the project are, project-specific risk, competitive risk, industry specific risks, market risk, and international risk. Risks refer variability. It is a complex and multifaceted phenomenon.
A variety of measures have been used to capture different facets of risk. The more important ones are range, standard deviation, and coefficient of variance, semi variance. The principal measure used is Standard deviation, despite having some limitations. It is commonly used in finance. Reasons for using SD are...
If a variable is normally distributed, its mean and SD contains all the information
about the probability distribution.
(a) Sensitivity analysis: Since the is uncertain, you may like to know what will happen to the viability of the project when some variables deviates from its expected values. It shows how robust or vulnerable a project is to change values of underlying variables. It explores how the variability of variables may be contained.
(b) Scenario analysis: If a variable are interrelated as they are more likely to be, it will be helpful to look at some plausible scenario, each scenario represents consisting combination of variables. The objective of scenario is to get the feel of what happens under most favourable conditions or most adverse configuration of key variables.
Select an important factor around which the scenario will be built.
Best scenario: High demand, High selling price, and low cost etc.
Normal scenario: Average demand, Average selling price, and average cost etc.
Worst scenario: Low demand, Low selling price, and low cost etc.
(c) Simulation analysis: Information can be generated using the simulation analysis, which may be used for developing the profitability profile of a criterion of merit by randomly combining the value of the variables which have a bearing on the chosen criteria.
Decision tree analysis: It is a useful tool for analyzing sequential decisions
in the face of risk.
| An insight into coordination and communication issues in Project Management | An Insight into Project Closure Activities | An Insight into Risk Breakdown Structure | An Insight into Work Breakdown Structure | Overview of Resource Management Techniques | Project Management Tools (PERT, Gantt, Run Charts) | Project Managers Perspective on Document Management System | Understanding Critical Practices in Project Management |
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