Koloon Case Study

Abstract This case study examines the decision making process of the Kowloon Development Company to the PrecisionTree decision tree software from Palisade. The Kowloon Development Company was faced with a major decision about their future investments. The General Manager of the Kowloon Development Company is usually involved in billion dollar investments, accurate decisions are needed. The company has to make a decision over the decision to purchase a new development project the total site area being 16,000 square feet. The objective is to use the use the Decision Tree software from Palisade, to determine the decision for the Kowloon Development Company whether or not to purchase the property. Decision trees provide a formal structure in which decisions and chance events are linked in sequence from left to right the general manager of the Kowloon Development company must decide whether to recommend the purchase of the 350 million dollar property and what would be the rate of return of the investment. He also needed to know whether or not the property would be best served developed or left undeveloped. He knows that if he doesn’t make a decision the board of directors would invest the money for two years at six percent. After performing the test using the PrecisionTree software the correct decision should be to invest 350 million. The only way to guarantee the highest rate from the investment would be 420 million, and if the Kowloon Development Company decided to purchase the property they would only receive a maximum rate of return 394 million for a developed piece of land. Property Investment Decision Introduction Kowloon Development Company is an investment company, involved in the investment, development, and management of properties. BusinessWeek) The company develops and sells residential, commercial, and large office buildings in Hong Kong. It also provides property management services for the projects developed by the company, luxury residential and serviced apartments, and commercial buildings and public housing estates. The company also involves in the property dev elopment, investment holding, property management and security services, financial services, retail, construction, film distribution, provision of consultancy services, property trading and investment. BusinessWeek) As of December 31, 2008, its investment properties comprised primarily retail shops and offices, covering approximately 75,000 square meters of gross floor area; and managed properties covered a gross floor area of approximately 560,100 square meters. (BusinessWeek) In 1998, the Kowloon Development Company was faced with a major decision about their future investments. The General Manager of the Kowloon Development Company is usually involved in billion dollar investments, accurate decisions are needed. Statement of problem The company is quarreled over the decision to purchase a new development project the total site area being 16,000 square feet. The general manager of the Kowloon Development company must decide whether to recommend the purchase of the 350 million dollar property and what would be the rate of return of the investment. He also needed to know whether or not the property would be best served developed or left undeveloped. He knows that if he doesn’t make a decision the board of directors would invest the money for two years at six percent. Determining Risk A structural change in the property market is anticipated as a result of a vastly growing pension fund industry in China, and as there is a renewed interest in Hong Kong and China properties from foreign funds since early 1998. Both domestic and foreign funds will need to find investment opportunities in real property. Foreign funds look at real estate as a long-term investment. They adopt serious and professional approaches in selecting projects, and they want to associate themselves with professional, reliable and respectable consulting firms. HKUST/CEIBS, 1998). Property investors almost all originating from HK and commission a practicability study on property investment and development in Hong Kong; have faced the problem of finding appropriate discounting rates in their analyses. The discounting rates should accurately reflect the opportunity cost of capital and consequently the systematic risk of the project. Quite often, determination of the discounting rates, or the â€Å"hu rdle† rates, has been based nothing more than intuition. However, â€Å"hurdle† rates lead to incorrect investment decisions ecause high return projects are by definition more favored than low return ones. The drawback is that the absolute expected return of a project is very high, but it is still not high enough to compensate for the high risk that has to be borne. Or conversely, a project may be expected to generate very modest return, but this return is already higher than its riskiness. In other words, the expected return of a project must be commensurate with its risk, or more precisely, it’s systematic or market risk. (HKUST/CEIBS, 1998). Observation The objective is to use the use the Decision Tree software from Palisade, to determine the decision for the Kowloon Development Company whether or not to purchase the property. Decision trees provide a formal structure in which decisions and chance events are linked in sequence from left to right. Decisions, chance events, and end results are represented by nodes and connected by branches. The result is a tree structure with the â€Å"root† on the left and various payoffs on the right. Probabilities f events occurring and payoffs for events and decisions are added to each node in the tree. With PrecisionTree, you’ll see the payoff and probability of each possible path through a tree. (Palisade) The first decision is to decide whether or not to bring someone to determine the future selling price that cost 500 thousand dollar we can also calculate the amount the Kowloon Development company would make if the decided to invest the money rather than purchase the land, that price was determined to be 420 million. The next step in the decision making process was to take the information from the investigating crew provided and determine that if we purchase the land would the highest rate of return would come from selling the property developed or undeveloped. The investigating firms were also used to determine the appropriate development ratio as well as the associated construction and interest cost were. The firm estimated that the cost of construction at HKD 106 million for a development ratio of 5. 5, or HKD 150 million for a development ration of 7. 8. With the information provided the next decision was to determine whether or not to apply for the higher development ratio, there was a 60 percent chance that the application would get approved and if it was approved there was a 50 percent chance that there would be an 80 million additional cost associated with the approved application. Results PrecisionTree determines the best decision to make at each decision node and marks the branch for that decision TRUE. Once your decision tree is complete, PrecisionTree’s decision analysis creates a full statistics report on the best decision to make and its comparison with alternative decisions. Palisade) As Results the correct decision should be to invest 350 million. The only way to guarantee the highest rate from the investment would be 420 million, and if the Kowloon Development Company decided to purchase the property they would only receive a maximum rate of return 394 million for a developed piece of land as seen in the graph. Re ferences BusinessWeek. (June, 1) BusinessWeek Company Description Retrieved January, 12 2012, from http://investing. businessweek. com/research/stocks/snapshot/snapshot. asp? ticker=34:HK Carmona, M. 2006) Designing mega-projects in Hong Kong: Reflections from an academic accomplice. Journal of URBAN DESIGN 11(1): 105–124. 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London: Royal Institute of British Architects Future Studies.