Expected Cash Flows Javier Estrada IESE Business School - - PDF document

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Emerging Markets (IV):

Project Evaluation

Javier Estrada ADFIN – Winter/2014

• 1. Expected Cash Flows and Discount Rates
• Expected cash flows and issues
• Models and discount rates
• 2. Evaluation
• NPV and IRR
• Sensitivity analysis

Javier Estrada IESE Business School Barcelona Spain ADFIN Winter/2014

Expected Cash Flows

• Key issue
• Oil price during the life of the project

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Javier Estrada IESE Business School Barcelona Spain ADFIN Winter/2014

Expected Cash Flows

$58 $138 $110 $36

Javier Estrada IESE Business School Barcelona Spain ADFIN Winter/2014

Expected Cash Flows

• A couple of things to keep in mind
• In general
• Cash flows are estimated first in the currency of the

country in which the investment takes place

 Then they are ‘somehow’ converted to expected cash flows in a strong currency

• In our case
• Oil is priced in dollars and this eliminates one source
• f uncertainty ($a/$ exchange rate)
• There remains huge uncertainty about the price of oil

through the life of the investment

 Sensitivity analysis is critical

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Javier Estrada IESE Business School Barcelona Spain ADFIN Winter/2014

Discount Rates

• Models
• L

→ R = Rf + MRP⋅(βp·βc)

• GE

→ R = (Rf + YSc) + MRP⋅{(0.6)⋅(σc/σw)}

• GS

→ R = (Rf + YSc) + MRP⋅{(1–ρSB)⋅(σc/σw)}

• SSB

→ R = {Rf + [(γ1+γ2+γ3)/30]⋅YSc} + MRP⋅βp

Exxon Mobil Beta: 0.48

Javier Estrada IESE Business School Barcelona Spain ADFIN Winter/2014

Discount Rates

• Models
• CAPM

→ R = 6.8%

• L

→ R = 8.2%

• GE

→ R = 17.7%

• GS

→ R = 18.4%

• SSB

→ R = 7.9% (γ1=γ2=γ3=0) → R = 12.9% (γ1=γ2=γ3=10) → R = 9.5% (γ1=γ3=0 / γ2=10)

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Javier Estrada IESE Business School Barcelona Spain ADFIN Winter/2014

Evaluation

• IRR
• 17.5%
• NPVs
• CAPM

→ $42.9m

• L

→ $35.5m

• GE

→ –$0.6m

• GS

→ –$2.6m

• SSB

→ $37.3m (γ1=γ2=γ3=0) → $15.2m (γ1=γ2=γ3=10) → $29.1m (γ1=γ3=0 / γ2=10)

Javier Estrada IESE Business School Barcelona Spain ADFIN Winter/2014

Sensitivity Analysis