Module22 - Making the Decision with Multiple Projects...

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Making the Decision with Multiple Projects Considering Options in Time Part I
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Key Concepts Last Module: Examined portfolios of investment options This Module: Examine how options in time create multiple investment options Build decision networks and decision trees to explore options in time.
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Options Over Time Invest Do Not Invest WAIT? The time value of money says that it is better to invest now if the returns are positive. But, waiting gives the decision maker more time to gather information and learn about the future. This may lower the risk of an investment. Also, things (i.e., costs, prices, etc.) may change with time, making it better to wait.
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When Consider Options? If there is no change in decision settings, then we do not need to consider decision options that change with time. If the present worth at time zero of an investment is positive, then the only result from delaying the investment is a decline in present worth (only differs by interest). The same is true for the opposite case; when the present worth at time zero is negative. Delaying the option to invest will make the decision less negative but the decision will not change. In summary, it is only when the inputs to the cash flow diagram change over time that we consider the option to delay.
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Other Options in Time One decision can lead to another: Make an investment (small) to see if a further investment should be made Here are some engineering examples: Seismic data is used to identify mineral deposits before large scale mining begins Market analysts survey potential customers in order to determine potential demand before production starts
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Decision Network Used to describe possible decisions over time under the assumption of certainty with respect to information Terms: Decision Node : A point in time in which the decision maker must choose between alternatives Option Arc : A possible decision available at a given decision node
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Decision Network Consider an option to delay an investment at either time zero or time one: The decisions: Delay: leads to more decisions. Invest: leads to a present worth value. Do-nothing: leads to a $0 present worth value. Invest Invest Do-nothing Invest Delay Delay Do-nothing Do-nothing
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Example: Possible Delay Suncor is considering further delay to the Fort Hills Oil Sands project in Alberta. Current project investment estimates have soared to $23.5 billion. “Suncor Further Delays Fort Hills Oil Sands Project In Alberta”, Dow Jones News Service , January 13, 2010.
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Example Continued Base case: $25.3B investment spread over 10 years. $2.5B over first three years. $22.8B over next seven years.
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This note was uploaded on 01/11/2012 for the course EIN 4354 taught by Professor Tufecki during the Fall '08 term at University of Florida.

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Module22 - Making the Decision with Multiple Projects...

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