@RISK Quick Tips: Contingent Contract Clause Valuation

Modeling Uncertain Number of Events, Each with Uncertain Parameters
Often in contract negotiations, a supplier of a product or service may agree with customers to pay a penalty if certain performance targets have not been met. In many cases, the supplier does not really have a good idea of the true possible impact of this clause, for example in terms of the average penalty that should be expected.

In this model, we use Monte Carlo simulation to assess such penalties depending on various performance levels.

The model could be extended (and explored in more detail in Palisade training courses) to evaluating whether one or more investment proposals that would improve performance (e.g. by reducing the variability or improving the average performance) should be accepted. The costs and benefits of each these projects could be compared in a single simulation using the Simtable feature.

» Download the model: PenaltyClause.xls

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