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1 A MULTIPERIOD FIRM MODEL by Ralf Östermark. 2 Firm plan model – Key elements Input: Decision variables Sales volume Production volume New debt etc.

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Presentation on theme: "1 A MULTIPERIOD FIRM MODEL by Ralf Östermark. 2 Firm plan model – Key elements Input: Decision variables Sales volume Production volume New debt etc."— Presentation transcript:

1 1 A MULTIPERIOD FIRM MODEL by Ralf Östermark

2 2 Firm plan model – Key elements Input: Decision variables Sales volume Production volume New debt etc. Input: Given parameters Sales price/unit Production cost/unit Amortization ratio etc. Input: Logical restrictions Inventory ≥ 0 Fixed assets ≥ 0 Debt ≥ 0 etc. Computations/Output: Multi-period financial statements Balance sheet Statement of income Some elements of Cash flow statement Output: Firm valuation: Sum of discounted future Net Income Input: Historical accounts Balance sheet

3 3 Firm valuation - Work schedule 1.Build a model for multi-period financial statements for the given case –Include the basic accounting logic –Link to the historical accounts –Link to the input elements (Decision variables, parameters) –Begin with the status quo i.e. no transactions –Check that the balance sheet is in balance –Add one decision/transaction at a time, link in all its effects and check the consistency of the balance sheet before continuing –Compute the company value as a sum of discounted net income over the planning period 2.Select a company to evaluate –Enter the historical accounts –Enter the parameters corresponding to the selected company –Fill in the decision variables according to your judgment as a company valuator –Compute the company value

4 4 Large Scale Techno-Economic Firm Planning Key elements

5 5 Key Features: The necessary financial relations included Free specification of planning horizon Simulation and optimization combined Guaranteed feasibility A flexible optimization module written as a dynamic link libary (DLL) in strict ANSI C.

6 6 Problem formulation:

7 7 Strategic Firm Planning Model Financial decision variables Constraints on decision variables Fundamental financial constraints Balance sheet relationships Goal functions Multi-period optimization problem - solving in LINGO

8 8 Decision variables Sales volume (SALEVOL) Production volume (PRODVOL) New debt (NEWDEBT) Repayment (REPAY) Investments (INV) New issues (NEWISSUE) Dividends (DIV) Depreciation (DEP)

9 9 Deviation variables Min dividend deviation (DIVDIFF) Max dividend deviation (MAXDIVDIFF) Equity deviation (EQUITYDIFF) Debt/Equity deviation (DEDIFF) Repayment deviation (REPDIFF)

10 10 Financialstatement Financial statement Fixed assets Value items Inventory Sales receivable Cash Other financial items Shareholders´equity Other restricted equity Net income of the year Other unrestricted equity Value items Accumulated depreciation difference Reservations Current liabilities Long-term debt

11 11 Statement of income + Turnover - Operating costs - Changes in inventory - Depreciation - Interest expenses + Other financial income + Extraordinary income and expenses + Allocations - Taxes = Net income

12 12 Constraints on decision variables 1. Turnover - upper bound = f(production capacity) FIXED ASSETS Factor * FIXASSETS

13 13 Factor * FIXASSETS 1. Turnover - upper bound (cont.)

14 14 Constraints on decision variables 2. Repayment level MINIMIZE

15 15 Constraints on decision variables 3. New issues - upper bound MINIMIZE

16 16 Constraints on decision variables 4. Dividends MINIMIZE

17 17 Constraints on decision variables 5. Depreciation - lower bound

18 18 Fundamental Financial Constraints 1. Cash - nonnegative Cash flow: + Turnover- Change in sales revenues - Costs- Change in other financial assets - Interest expenses+ Change in current liabilities + Other financial income + New debt + Extraordinary income- Repayment - Dividends- Investments

19 19 Fundamental Financial Constraints 2. Fixed assets- nonnegative

20 20 Fundamental Financial Constraints 3. Long-term debt- nonnegative

21 21 Fundamental Financial Constraints 4. Capital structure MINIMIZE

22 22 Financial relationships Costs:c * TurnO Interests:i * DEBT Ot. fin. costs.o * OTH.FIN.ASS. Sales receivables * TurnO Current liabilitiescl * Costs

23 23 Alternative Objective functions - Optimize discounted dividend - Optimize discounted net income

24 24 Example: optimization in LINGO The optimization module of the firm planning system is written as a dynamic link library (DLL) in strict ANSI C by the author. However, in smaller optimization formulations like the one in analys.xls, the optimization can be carried out by Excel. We illustrate the solution process by a small system written for LINGO: 13] ! Objectivefunction 3 ; 14] MAX = +.8696*Div(1)-10000.*MinDivdiff(1)- 10000.*EQUITYdiff(1)-10000.*DEdiff(1) 15] -10000.*REPdiffm(1)-30000.*MAXdivdf(1); 16] !AMATRIX * X < b-vector; 17] !Cash; 18] +3.135*Oms(1)+.91*Nylan(1)-.91*Amort(1)-1.*Inv(1) 19] +1.*Emiss(1)-1.*Div(1)+.1*Avskr(1)>3137.551; 20] !Turnover; 21] +1.*Oms(1)-.5*Inv(1)+.5*Avskr(1)<2950.4; 22] !Fixed assets; 23] +1.*Inv(1)-1.*Avskr(1)>-5900.8; 24] !Long-term debt; 25] +1.*Nylan(1)-1.*Amort(1)>-2353.9; 26] !Minimal depreciation; 27] -.03*Inv(1)+1.*Avskr(1)>177.024; 28] !Debt-Equity ratio;

25 25 29] -2.375*Oms(1)-1.09*Nylan(1)+1.09*Amort(1)+1.*Emiss(1) 30] -1.*Div(1)-.9*Avskr(1)+1.*DEdiff(1)>-3012.849; 31] !New Issues; 32] +1.*Emiss(1)-1.*EQUITYdiff(1)<111.572; 33] !Minimal Dividend; 34] -.01*Emiss(1)+1.*Div(1)+1.*MinDivdiff(1)>13.777; 35] !Maximal Dividend; 36] -.45*Oms(1)+.09*Nylan(1)-.09*Amort(1)+1.*Div(1) 37] +.9*Avskr(1)-1.*MAXdivdf(1)<1450.449; 38] !Minimal Debt Repayments; 39] -.15*Nylan(1)+1.*Amort(1)+1.*REPdiffm(1)=353.085;

26 26 Related Research Östermark R: "Pitkän tähtäyksen strateginen tilinpäätössunnittelumalli" (A long term strategic planning model). Presented at European IFPS User's Group Meeting, Amsterdam 1983. In: European IFPS User's Group Proceedings, 11, 1983, 14 p. Östermark, R. and E. Kasanen: "A graphical decision support system for multi- objective financial modeling", Turku School of Economics, 1985. Presented at the EURO VII Conference in Lisbon, Portugal 09/1986. Östermark, R.: "A graphical DSS for conflict zone analysis of commercial bank environment", In: DSS Transactions 1987, 15 p. Presented at the DSS-87 Conference in San Fransisco, California. Östermark, R.: "Optimal compromising within a multi-criterial conflict zone", European Journal of Operational Research 35, 1988, pp. 255-262. Östermark, R. and K. Söderlund: "A multi-period firm model for strategic decision support", Kybernetes 28:5, 1999, pp. 538-556. Östermark, R., H. Skrifvars, and T. Westerlund: "A nonlinear mixed integer multi-period firm model", International Journal of Production Economics 67, 2000, pp. 183-199.

27 27 Related Research… Booth, Bessler, Foote.”Managing interest-rate risk in banking institutions” European Journal of Operational Research 41(1989) 302-313. Reid, Bradford.”A Farm Firm Model of Machinery Investment Decisions” American Journal of Agricultural Economics (1987) 64-77. Bessler, Booth. “An interest rate risk management model for commercial banks” European Journal of Operational Research 74 (1994) 243-256 Korhonen’s Bank Model [EJOR, around 1989] The derivative firm model (Choi et al, Man. and Decision Economics [1993])

28 28 interesting internet-addresses: http/ How to get handouts of Power Point sheets: In Powerpoint -> FILE->PRINT-> in PRINT WHAT choose handout form

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