Economic Risk Analysis Using Analytical and Monte Carlo Techniques

Authors

  • Brendan R. O'Donnell Michigan Technological University
  • Michael A. Hickner Michigan Technological University
  • Bruce A. Barna Michigan Technological University

Abstract

Investment decisions are typically based on some form of cash-flow analysis, such as net present value (NPV) or internal rate of return (IRR).  The analysis is first performed using predicted performance of the project over the project life as if the predictions were deterministic.  The stochastic nature of these predictions can then be handled using a variety of risk analysis techniques, such as:  best case/worst case scenarios; single-parameter sensitivity analysis (Strauss plots); analytical error propagation; Monte Carlo simulation; and decision trees.  In this paper, we present the development and application of a Microsoft Excel spreadsheet template that facilitates analytical and Monte Carlo risk analysis of investment decisions.  We have found the template particularly useful in teaching risk analysis to senior students in the design course.

Author Biographies

Brendan R. O'Donnell, Michigan Technological University

Brendan O'Donnell received his MS degree in chemical engineering from Michigan Tech in the summer of 2001. His graduate research focused on developing software tools to aid in process design, economic assessment, and process improvement. He holds a BS degree in chemical engineering from Michigan Tech and is currently working as a photolithography engineer for IBM in Burlington, Vermont.

Michael A. Hickner, Michigan Technological University

Michael Hickner is currently a chemical engineering PhD candidate at Virginia Tech. His research involves synthesizing and characterizing new proton exchange membranes for fuel cells. He has conducted part of his fuel cell research at Los Alamos National Laboratory. He received his BS in chemical engineering from Michigan Tech in 1999.

Bruce A. Barna, Michigan Technological University

Bruce Barna is Professor of Chemical Engineering at Michigan Technological University. He holds BS and MS degrees from Michigan Tech and a PhD from New Mexico State University. He worked as a process engineer for Reynold's Metals and Exxon and as a plant engineer and plant manager for Kalsec, Inc., prior to joining the faculty at MTU.

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Published

2002-04-01

Issue

Vol. 36 No. 2 (2002): Spring 2002

Section

Manuscripts