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Risk Evaluation of Projects A and B

The document analyzes the risk of two projects, Project A and Project B, based on their expected cash flows and standard deviations. It calculates that Project B has a higher standard deviation of 252.98 compared to Project A's 126.79, meaning Project B is more risky. It also finds that Project A has a lower coefficient of variation of 0.158 compared to Project B's 0.316. Therefore, the document recommends investing in the less risky Project A.

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80 views3 pages

Risk Evaluation of Projects A and B

The document analyzes the risk of two projects, Project A and Project B, based on their expected cash flows and standard deviations. It calculates that Project B has a higher standard deviation of 252.98 compared to Project A's 126.79, meaning Project B is more risky. It also finds that Project A has a lower coefficient of variation of 0.158 compared to Project B's 0.316. Therefore, the document recommends investing in the less risky Project A.

Uploaded by

max_dcosta
Copyright
© Attribution Non-Commercial (BY-NC)
We take content rights seriously. If you suspect this is your content, claim it here.
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Download as DOC, PDF, TXT or read online on Scribd

FINANCE & COSTING ASSIGNMENT

Name: Max William D’Costa Course: PGDHR 09-


Roll No.: 4 11
Trimester 1

Topic: Risk Evaluation

Problem

Details of two Projects are given below:

Project A Project B

Cash Flow Probability Cash Flow Probability


1000 0.2 1200 0.2
800 0.6 800 0.6
600 0.2 400 0.2

Which project is more risky?

Solution

A) Let us calculate the ‘Expected Cash Flow’ for Project A

Expected Cash Flow for Project A = (1000 x 0.2) + (800 x 0.6) + (600 x 0.2)
= 800

B) Let us calculate the ‘Expected Cash Flow’ for Project A

Expected Cash Flow for Project B = (1200 x 0.2) + (800 x 0.6) + (400 x 0.2)
= 800

Here we can see that 800 is the mean.

C) Let us calculate the ‘Standard Deviation’ from the Mean for Project A

Max D’Costa Page 1


Following are the steps for the calculation of Standard Deviation from the mean for
Project A.

Step 1: Calculate the Mean

The mean has already been calculated above which is 800

Step 2: Calculation of Deviation from Mean

1000 – 800 = 200


800 – 800 =0
600 – 800 = -200

Step 3: Square each Deviation & Multiply by the corresponding Probabilities

(200)2 x 0.2 = 8000


(0)2 x 0.6 =0
(-200)2 x 0.2 = 8000

Step 4: Summation to find the Total Deviation (i.e.) Variance

= (8000 + 0 + 8000)
= 16000

Step 5: Square Root of the Total Deviation (i.e. Variance) to get the Standard
Deviation

σ = ∫16000
σ = 126.79

D) Let us calculate the ‘Standard Deviation’ from the Mean for Project B

Following are the steps for the calculation of Standard Deviation from the mean for
Project B.

Step 1: Calculate the Mean

The mean has already been calculated above which is 800

Step 2: Calculation of Deviation from Mean

1200 – 800 = 400


800 – 800 =0
400 – 800 = -400

Step 3: Square each Deviation & Multiply by the corresponding Probabilities

Max D’Costa Page 2


(400)2 x 0.2 = 32000
(0)2 x 0.6 =0
(-400)2 x 0.2 = 32000

Step 4: Summation to find the Total Deviation (i.e.) Variance

= (32000 + 0 + 32000)
= 64000

Step 5: Square Root of the Total Deviation (i.e. Variance) to get the Standard
Deviation

σ = ∫64000
σ = 252.98

Since the deviation (skewness) of Project B is more than that of Project A

∴ Project B is more Risky, and hence it may rejected.

E) Also, which Project should I go for?

Project A Project B

Variation of Project A is 126.49 Variation of Project B is 252.98

∴ Co-efficient of Variation = Standard ∴ Co-efficient of Variation = Standard


Deviation (σ) Deviation (σ)
Mean Mean

= 126.49 ÷ 800 = 252.98 ÷ 800


= 0.158 = 0.316

Since the Co-efficient of Variation of Project A is lower.

∴ We will go in for Project A. Investment is recommended in Project A.

Max D’Costa Page 3

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