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Techniques for Treating Uncertainty and Risk in the Economic Evaluation of Building Investments.

Techniques for Treating Uncertainty and Risk in the
Economic Evaluation of Building Investments.
(7381 K)

Marshall, H. E.

NIST SP 757; 97 p. September 1988.

### Available from:

Government Printing Office

### Keywords:

building economics; certainty equivalent; decision
making; economics; mathematical/analytical technique;
risk-adjusted discount rate; risk analysis; risk
attitude; risk exposure; sensitivity analysis;
simulaiton; uncertainty

### Abstract:

*
Four economic methods - life-cycle costing, net
benefits, benefit-cost ratio, and adjusted internal rate
of return - are illustrated in a building investment
problem. Input values are first assumed to be certain;
thus uncertainty and risk are ignored in arriving at
measures of project worth. Then the same four methods
are examined with techniques for treating uncertainty in
input values and for measuring risk exposure (i.e., the
probability of failing to achieve preducted investment
worht). Risk attitude, the willingness of a decision
maker to take a chance or gamble on an investment of
uncertain outcome, is also incorporated. Techniques
examined include conservative cash flow estimation,
sensitivity analysis, breakeven analysis, risk-adjusted
discount rate, certainty equivalent, input estimation
using expected values, mean-variance criterion and
coefficient of variation, decision analysis, simulation,
and the mathematical/analytical technique. Advantages
and disadvantages of each technique are described. The
techniques are applicable to any capital budget
expenditure whose future stream of benefits, revenues,
savings, or costs is uncertain. Guidance is provided
for selecting the appropriate technique for any given
investment problem.
*