1. QUANTITATIVE ANALYSIS
MBA BOOK REVIEW
MICASA HOTEL
19th October 2002
Zuwailiah Jamaludin
October 2002

2. QUANTITATIVE ANALYSIS
DECISION TREE ANALYSIS
CASH FLOW ANALYSIS
NET PRESENT VALUE
PROBABILITY THEORY
REGRESSION ANALYSIS & FORECASTING

3. DECISION TREE ANALYSIS
Objective :
Break complex problems
into manageable parts
How?
DECISION TREE DIAGRAM
5 steps >
Determine all possible alternatives and risks
Calculate monetary consequence of alternatives
Determine uncertainty of each alternatives
Combine top three steps into a tree diagram
Determine the best alternative &
consider non- monetary aspects

4. For different alternatives
EVENT FORKS
ACTIVITY FORKS

5. To drill or not to drill
1. Paid $20,000 for drill option
2.Could lower risk if hire a geologist to perform seismic
testing at $50,000. T gives better indication of success
and lower risks.
3. Should he proceed with drilling option at $ 200,000
4. Consulted oil experts says the land has 60% chance of
having oil
5. If seismic tests show positive for oil, it has a 90% chance
of having oil
6. If seismic tests show negative for oil, it has a 10% chance

6. 2. Build the tree oil dry +ve oil -ve dry oil dry 0.9 DRILL 0.1 0.60
NO DRILL
DRILL
-ve
TEST
dry
0.40
0.9
NO DRILL
0.6
oil
NO TEST
DRILL
dry
0.4
NO DRILL

7. 3. Calculate Expected Monetary Value (EMV)
(Expected income $ 1 Million)
0.9
(1,000,000 x 0.9)
+ (0 x 0.1)
= $ 900,000
0.1
0.60
0.1
(1,000,000 x 0.1)
+ (0 x 0.9)
= $ 100,000
0.40
0.9
0.6
(1,000,000 x 0.6)
+ (0 x 0.4)
= $ 600,000
0.4
> use of activity squares to choose the best outcome

8. 4. to determine best alternative, subtract applicable cost
0.9
EMV > cost
Drill
$900K
$700K
Drill
-$200K
0.1
0.60
$420K
0.1
EMV < cost
No drill
Test
-$50K
$100K
-$200K
0.40
0.9
EMV > cost
Drill
0.6
$600K
$400K
-$200K
0.4

9. Work from Right to Left of the tree
Recap :
Work from Right to Left of the tree
1. Multiply outcome of probabilities = EMV of drill
2. Choose to drill if EMV > cost
3. Choose to test or not by choosing the highest EMV

10. CASH FLOW ANALYSIS
> basis of financial analysis
Goal : Determine WHEN and HOW MUCH cash flow in
a given scenario
Answers the question ….
What does the investment cost (current investment)
and how much will it generate (future benefits) each year

11. Answers the question ….
What does the investment cost (current investment)
and how much will it generate (future benefits) each year
Steps taken to answer the questions …..
1. Define the VALUE of the investment
2. Calculate the MAGNITUDE of the benefits
3. Determine the TIMING of the benefits
4. Quantify the UNCERTAINTY of the benefits
5. Do the benefits JUSTIFY the wait?

12. To determine the cash uses during the life of project
CASH SOURCES
Revenue or sales
Royalties
CASH USES
COGS
Selling cost
General & Admin cost
Taxes

13. VS > Does not indicate PROFIT Profits (from acct statement)
short-term measurement of
investment in a shorter
time-frame than the life of
the investment
Cash Flow analysis is a
technique used to evaluate
individual projects over the
life of the project. VS
> Depreciation is not relevant
> Financing costs are not included

14. Eg of cash flow : refer to notes ….
> Indicate how timing is important ….. A
+$61
+$51
+$51
-$102
Year 1
Year 2
Year 3
Year 4
+$163 B
-$102

15. In company can reinvest with a 10% yield B
ACCUMULATED VALUE
Assumption :
In company can reinvest with a 10% yield B
Future value of a $ in x periods = ($today) x (1+Reinvestment rate)
No of period
> $1 x (1+.10)¹ = 1.10
Use basic business calculator to get the accumulated value
$1 today = $1 today
$1 invested = $ 1.1 in 1 yr
$1 invested = $ 1.21 in 2 yrs
In this case >>>>> $ 34230

16. In evaluating projects / investments that extend into future,
CONCLUSION
In evaluating projects / investments that extend into future,
one must consider ,
1. MAGNITUDE OF CASH FLOW
2. TIMING OF CASH
3. SUBSEQUENT USE OF CASH
Cash flow analysis determines the flow but we need to value
the cash in today’s dollars.
Only then can we compare different projects regardless of
timing

17. NET PRESENT VALUE (NPV) Future Cash x Discount Factor = NPV
NPV analysis takes future cash flows and discounts them to
their present -day value
> Note : This is the inverse of accumulated value
> $1 x (1+.10)-¹ =
Discount factor
Future Cash x Discount Factor = NPV

18. Future Cash x Discount Factor = NPV
Yr $ 102,000 x = - $ 102,000.00
Yr $ 51,000 x = $ 46,363.59
Yr $ 51,000 x = $ 42,148.95
Yr $ 61,000 x = $
NPV $ 32,342.40
In evaluating projects / investments that extend into future,
one must consider ,
1. MAGNITUDE OF CASH FLOW
2. TIMING OF CASH
3. SUBSEQUENT USE OF CASH
4. DISCOUNT RATE

19. Discount Rate = Hurdle rate
What determines the Discount Rate ?
Subjective
Depends on the risks
Under no circumstances that the bank’s debt rate be used

20. 1. Try different discount rate until NPV =0
INTERNAL RATE OF RETURN (IRR)
The rate at which the discounted cash flows in the future
equal the value of investment today
ie discounted rate used to get NPV = 0
HOW?
1. Try different discount rate until NPV =0
2. Use HP calculator
Use discount factor : %
Yr $ 102,000 x = - $ 102,000.00
Yr $ 51,000 x = $
Yr $ 51,000 x = $ 31,765.00
Yr $ 61,000 x = $
NPV $ 0

21. Probability Distributions
PROBABILITY THEORY
Probability Distributions
Multiple outcomes result in a distribution of outcomes
Each possibility is assigned a probability
Graph showing distribution of outcomes is called a
probability mass / density function
Normal Distribution = Bell Curve
When a probability mass function is based on many trials,
the curve tends to become bell-shaped

22. will take the form of the bell-shaped normal distribution”%
This hump is caused by CENTRAL LIMIT THEOREM
states that “distribution of averages of repeated independent samples
will take the form of the bell-shaped normal distribution”
MEASURES OF NORMAL CURVE :
MEAN = centre of curve / average
STD DEVIATION (SD) = how wide the curve appears
MEDIAN = centre
MODE = highest value

23. CUMULATIVE DISTRIBUTION FUNCTION (CDF)
- a cumulative view of a probability function
Normal curve tells you probability of a given outcome but
CDF tells you probability of a range of values. P $

24. REGRESSION ANALYSIS & FORECASTING
Linear regression models are used to determine relationships
between variables that are related
Once a relationship is established, the future can be forecast
Regression analysis involves gathering data to determine
relationships of variables
Goal of regression is to produce an equation of a line that
depicts the relationship

25. m = slope of line ( relationship) X = independent variable Y *
Y=mX + b
sales *
Y = dependant variable
m = slope of line ( relationship)
X = independent variable
b = y axis intercept * * * * m * b X 35
temp
Eg : To know sales at 35 degrees
b= 15000
m= 5
Y = (5 x 35) = 32500
At 35 degrees temp, sale is expected at RM 32500

26. SUMMARY Sort out complex problems with decision trees
Determine the cash received in the future - cash flow
analysis and net present value analysis
Quantify uncertainty with probability theory
Determine relationships and forecast with regression
analysis