Marcel Melo- 2.5 Assignment- Water and Sewer Utility
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2.5 Assignment: Water and Sewer Utility Marcel Melo
Embry-Riddle Aeronautical University
HROM 510 – Enterprise Risk Management
Professor Chris Mandel
October 30, 2022
2
In the video that we watched about a water and sewer provider, there was a debate on whether System Development Fees (SDF) or System Improvement Charges (SIC) are better for collecting capitol charges over time. The impact of SDF’s versus SIC’s weigh both on the company value and the net present value. To understand what would be more beneficial we must
first understand the difference between present value and net present value. According to Investopedia, “Present value (PV) is the current value of a future sum of money or stream of cash
flow given a specified rate of return. Meanwhile, net present value (NPV) is the difference between the present value of cash inflows and the present value of cash outflows over a period of
time” (Beers, 2022). This means that Present Value (PV) is what you’ll require to earn a certain amount of money in the near future, but it’s discounted by a rate of return. At the same time, Net Present Value (NPV) is used to decide how profitable your project might be over time, so it uses the present value cash outflows and inflows over time. If we were to look at SDF’s and SIC’s like stocks with equal basis points to their discount
rates, the SDF’s would be a volaille stock with the potential to yield more capitol while the SIC would be a more consistent stock with potentially less capitol over the years. If we view the difference between the two in this manner, then we can assume the risk associated between the two options. Since risk is the basis for most Enterprise Risk Management (ERM) organizations, it would be safe to assume the decision-maker’s assessment would be based upon the highest probability of financial loss. Therefore, the organization’s decision maker would have to consider several risk-based scenarios based on market analysis in order to determine the best ERM strategy. While it might seem like a straightforward decision to go with the more stable SDF’s, the decision maker of this organization might need to ratify a strategic plan developed
3
with a primary focus on value drivers for the area surrounding projected water and sewer utilities
developments for the area of operations. If there is more of an emphasis on these value drivers, the strategic plan could add less risk and more return to the planning process or selection of SDF’s versus SIC’s.
Since we are evaluating this decision based upon concepts related to ERM and given the limited resources or information from the video, if I was the decision-maker for this organization
I would choose the more conservative route by choosing SIC’s. Although this decision would be the most conservative one, I would choose the lowest operational risk even if it comes with less financial risk. Even though financial risks are represented by a smaller percentage of the volatility of the organization, while operational and strategic risks account for the bulk of the organization’s volatility. While the financial gain from water and sewer customers is consistent, it allows for a more stable financial approach and the revenue generated from customers is more reliable long-term. This stable revenue flow can be adjusted by the economy and utilities can be increased if necessary to keep up with demand. Even though this decision is the more conservative response and ERM allows organizations to accept more calculated risk, I would be making my decision in the interest of my shareholders or board members. On the other hand, if this decision was for my personal company and I could accept the added risk, I would personally chose the more volatile option of SDF’s since the potential financial gain would supersede the more conservative financial decision of the opposing SIC.
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REFERENCES:
Beers, B. (2022, June 28). Present value vs. net present value: What's the difference?
Investopedia. Retrieved October 29, 2022, from https://www.investopedia.com/ask/answers/033115/what-difference-between-present-
value-and-net-present-value.asp
Segal, S. (2011). Corporate value of enterprise risk management : The next step in business management
. John Wiley & Sons, Incorporated.
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