- •Abstract
- •1. Introduction
- •1.1. Background
- •1.2. Problem and research questions
- •1.3. Aim and Limitation
- •1.4. Outline of thesis
- •1.5. Abbreviation and definition
- •Irr Internal Rate of Return
- •2. Method
- •2.1. Approach
- •2.2. Data collection method
- •2.3. Primary data
- •2.4. Secondary data
- •2.5. Data processing
- •2.6. Validity, reliability and generalization
- •3. Theories
- •3.1. Principal-Agent Problems
- •3.2. Wacc and opportunity cost of capital
- •3.3. Capm and apt
- •3.4. Estimating β
- •3.4.1. Operating leverage and β
- •3.5. The risk and discount rates for international projects
- •3.6. Purposes of performance measurement
- •3.6.1. Eva, Book roi, and ep
- •3.7. Working capital, depreciation and tax
- •4. Own research
- •4.1. Review of pharmaceutical market in Russia
- •3.1.1. Russian companies and them place in market
- •3.1.2. Pharmaceutical company “Zdorovie Ludi”
- •3.2. Research strategy (Roadmap of decision)
- •3.3. International and European contracts
- •3.4. National contracting in a global economy
- •3.5. National contract low and human rights
- •3.6. (Step 1) Juristic analyses and common mistakes of the contract
- •3.6.1. The formation and scope of a contract:
- •3.6.2. The content of a contract:
- •3.6.3. Policing a contract:
- •3.6.4. Performance, discharge and breach of the contract:
- •3.7. (Step 2) Controlling of strategy and consideration the contract as investment project
- •3.8. Transformation the contract to the invest project
- •Risk of delivery (for buyer)
- •Techniques of payment (risk for buyer)
- •3.9. (Step3) Forecast of outflow and inflow
- •3.10. (Step 4) Determination the risk and discount rate
- •3.10.1. Country risk analysis
- •3.11. Commercial counterparty risk analysis
- •3.12. (Step 5) Procedure of estimation and comparison of the contract
- •3.13. Book Rate of Return (Advantages and disadvantages)
- •3.14. Payback Period and Discounted-Payback Period (Advantages and disadvantages)
- •3.15. Internal (or discounted-cash-flow) rate of return (irr) and mirr (Advantages and disadvantages)
- •3.15.1. Lending or borrowing position
- •3.15.2. Multiple rates of returns
- •3.15.3. Mutually exclusive projects
- •3.16. The cost of capital for near-term and distant cash flows
- •3.17. Profitability Index (pi, advantages and disadvantages)
- •3.18. Net Present Value (npv, advantages and disadvantages)
- •3.18.1 Calculate npv with glance of inflation
- •3.18.2 Calculating npv in other countries and currencies
- •3.19. (Step 6) Performance and agency problems
- •4. Results
- •4.1. Simulation model analysis and calculation
- •4.2.1. Wacc as discount rate
- •4.2.2. Manager’s working capital use penalty points
- •4.2.3. Risk-Adjusted Discount Rate (radr) and ceq
- •4.3. Summary of Simulation model analysis
- •4.4. Scenario analysis and calculation
- •4.4.1. Discount rates that based on wacc
- •4.4.2. Discount rates that based on radr
- •4.5. Summary of scenario analysis
- •4.6. Final analysis and Decision Card (Step 7)
- •Decision Card
- •4.7. What could be improved and suggestion for future research.
- •Conclusion
- •References
- •Appendix 1 – 7 (Simulation Model and Scenario analysis calculation) (Excel) Appendix 1 (Excel)
- •Appendix 2 (Excel)
- •Appendix 3 (Excel)
- •Appendix 4 (Excel)
- •Appendix 5 (Excel)
- •Appendix 6 (Excel)
- •Appendix 7 (Excel)
- •Appendix 8 (Interview questions and structure of survey) part 1
- •A) Survey for managers
- •B) Survey for specialist
- •Part 2 Survey of experts
- •Part 3 Results and Conclusion a) Survey for managers
- •Conclusion
- •B) Survey for specialist
- •Conclusion
- •C) Survey of experts
4.2.3. Risk-Adjusted Discount Rate (radr) and ceq
The RADR method is very popular and lots of companies use it in practice. In the base of method there is an idea that the high rate of risk covers the high rate of return. The formula of calculation of risk-adjusted rate is:
or
, (3.24)19 (4.5)
– Risk-free rate or WACC
– Premium for risk each factors
The risk is estimated by the discount rate of the project because discount rate is calculated as a sum of risk-free rate or WACC and premium for risk each valuated factors. Manager has to pay attention to the fact that during the cross-border transaction some risk can be changed. For example, manager has cross-border transaction and buys the goods for gross sale in a home country. Manager makes the payment of contract in foreign currency. When manager make the payment the foreign exchange risk disappears. That is why, it would be wrong to discount the cash flow which manager have after currency payment to discount rate with foreign exchange risk.
Manager cannot hope to estimate the accurate risk of a contract, but manager has to examine any contract and look for clues to its riskiness. Also the manager has to think about the main uncertainties affecting the economy and consider how the contract is affected by these uncertainties.20
The financial manager could use CAPM to estimate the cost of capital and then use this figure as single discount rate for each period’s expected cash flows. The using constant discount rate for all period expecting cash flows means that contract risk does not change over time. There are two ways to value a risky cash flow of contract:
Method 1: Discount the risky cash flows of the contract at a risk-adjusted discount rate (r) that is greater than (rf). The RADR adjusts for both time and risk.
Method 2: When manager use this method hi or she have to estimate the smallest certain payoff to exchange the risky cash flow. This is called the certainty equivalent, denoted by CEQ. The CEQ is the value equivalent of safe cash flow, it is discounted at the risk-free rate. The certainty-equivalent method separates adjustments for risk and time.
(4.6)21
Let’s try to calculate the discount rate for my case. In my research I consider the Russian pharmaceutical export-import company, therefore I take the MIBOR.22as risk-free rate. I think that it is better than statement bond ГКО rates, because the MIBOR is appropriate as risk-free rate in our case. If the company wants to finance contract and borrow the money on finance market the Moscow InterBank Offered Rate would be the ideal mark or risk-free rate. The 05.03.09 the MIBOR is (18.5900), and I use the risk-free rate as (18.5900). The same is vividly seen when I take the WACC of company, as risk-free rate that is (0.1226), but I consider this problem late. The Beta of pharmaceutical is 0.72323. The r (m) is (27.83). Therefore the (r) is calculating as an opportunity cost of capital or single discount rate for our contract:
r= r (f) + ß(r (m) – r (f)) = 18.59 + 0.723(27.83 – 18.59) = 25.2705 (4.7)
And now I try to calculate with WACC as risk-free rate:
r= 12.26 + 0.723(27.83 – 12.26) = 23.5171 (4.8)
At first, I calculate NPV, IRR, and PI with discount rate, where the risk-free rate is MIBOR, therefore the discount rate is (25.2705):
|
Contract I |
Contract II |
Contract III |
NPV |
227.87 |
228.06 |
243.42 |
PI |
0.6329 |
0.63349 |
0.70559 |
IRR |
11.35 |
13 |
20.36 |
Table 4.11
Secondly, I calculate NPV, IRR, and PI with discount rate, where the risk-free rate is WACC, therefore the discount rate is (23.5171):
|
Contract I |
Contract II |
Contract III |
NPV |
228.01 |
228.15 |
243.54 |
PI |
0.63337 |
0.63376 |
0.705904 |
IRR |
11.35 |
13 |
20.36 |
Table 4.12