Project Valuation: Price Forecasts Bound to Discount Rates

Babak Jafarizadeh () and Reidar B. Bratvold ()
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Babak Jafarizadeh: Heriot-Watt University, Edinburgh EH14 4AS, United Kingdom
Reidar B. Bratvold: University of Stavanger, Stavanger 4036, Norway

Decision Analysis, 2021, vol. 18, issue 2, 139-152

Abstract: For their appraisals, most companies use discount rates that account for timing and riskiness of projects. Yet, especially for commodity projects, discounting future cash flows is generally at odds with the assumptions in a company’s hurdle rate. With a multitude of technical and market uncertainties, inconsistent assessments lead to biased valuations and poor investment decisions. In this paper, we consider price forecasts and discount rates in an integrated framework. We calibrate the risk premiums in a two-factor stochastic price process with a capital asset pricing model-based discount rate. Together with the analysts’ long-term prices forecasts, the suggested method improves consistency in valuation and decision making.

Keywords: risk premiums; commodity price uncertainty; project appraisal; CAPM; risk neutral; application in petroleum industry (search for similar items in EconPapers)
Date: 2021
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Citations: View citations in EconPapers (3)

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Persistent link: https://EconPapers.repec.org/RePEc:inm:ordeca:v:18:y:2021:i:2:p:139-152

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