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International Finance
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Recently, Marriott International opened the Al Jadaff hotel in Dubai. Discuss qualitatively (no need to use any numbers) how Marriott International should adjust the estimated cash flow for the project and the discount rate when evaluating this project. Which adjustment (cash flow or discount rate) do you believe would be most effective in reflecting the risk of this foreign project?
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International Finance
Qualitative discussion on the adjustment of cash flows for Marriott International
Through the investment in the Al Jadaff hotel in Dubai, Marriott International exposes themselves to country risk. The firm may choose to use cash flow adjustment methods to determine the present value of the project – which would drive further operational, investment and financing decisions. The use of cash flow adjustments would primarily involve identification of prominent risk factors in each year (Damodaran, 2008). Each risk factor is used to discount the estimated cash flow for each year. The result is a net present value of the hotel determined from adjusted cash flows to various risk factors.
Discount Rate Adjustment
Alternatively, Marriott International may choose to use the discount rate as an adjustment method. In this case, when evaluating the Al Jadaff hotel project, the firm should use the prevailing discount rate as a measure to estimate the country’s risk rating. This done owing to the correlation between the discount rate and the project’s rate of return. As such, the adjustment to the rate of return or the discount rate in the capital budgeting approach may be useful in the determination of country risk (Madura, 2008, pp. 459 – 460).
Most effective approach in reflecting risk of the foreign project
The better method that provides an effective approach is the use of estimated cash flows. The effectiveness of this approach stems from the use of each individual cash flow and the specific form of risk affecting that particular cash flow….
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