UNIVERSITY OF GLOUCESTERSHIRE

SCHOOL OF BUSINESS AND LAW

MBA-1 (GROUP-D)
MODULE: SFM

NAME: Nikunj Patel

STUDENT NUMBER: 0661SWSW1109

INTAKE: April 2010

Email: nikunjrpatel1986@yahoo.co.in

LECTURER: S .P. PALAN

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 PROJECT CONTAIN

1. Investment Appraisal...................................................... 03

2. Calculation of PBP,NPV,IRR........................................... 04

3. Accepted and rejected project.......................................... 06

4. Discounting cash flow via investment decision............... 07

5. Cost of capital increased/decreased with NPV................ 07

6. Long and short term project with NPV............................. 08

7. Cost of capital affect the IRR........................................... 08

8. Comparison between NPV and IRR................................ 08

9. Conclusion....................................................................... 10

10. Reference and bibliography............................................. 10

ANS :-( A)
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I agree with this statement. Investment appraisal should add value to the business entity.
Investment is a key part of building of business. Businesses operate by raising finance from
various sources. For the start of the new business needs some capital or money which is we
known as in business language investment. That all source which is an investment in real
assets such as like plant, machinery or furniture. New assets cab boost productivity, cut costs
and give to business competitive edge. Some business also investment in financial assets such
like share of another business or loans to business and individuals credits. Every company to
achieved company goals in manners of profit. Investment involves outflows (payments) of
cash causing inflows (receipts) of cash. There are quite a few factors behind this:-

1>Survival of the company 2>Re-investment 3>Retained profit. 4>Invest in loss project.

Company wants to make profit so its needs to a basis decision making in investment in the
terms of projects. Company can take long term basis decision making. There are different
type of discounted cash flow method uses to make investment in called investment appraisal.
It is one like type of finance. Fundamental importance of business investment decision,
manager need a rational and realistic assessment procedure by which to appraise the
investment opportunities that come to their notice so both accept and reject depends upon for
ranking project in order of appeal. For selecting which investment opportunities to pursue and
which to avoid is a vital matter to business because:

 Individual project commonly engage comparatively large and permanent

commitments of finance.
 They also engage this commitment for long, often very long, periods of time.

ANS :-( B)

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PROJECT: A

Year NCF (£000) DCF (12.5%) DCF (17.5)

0 (10)

1 3 .888 .851

2 3 .790 .724

3 3 .702 .616

4 3 .624 .524

5 3 .554 .446

TOTAL: 3.558 3.161

(B) P.V =3(3.558)

£000 =10.674-10000

=.674

NPV AT 12.5% IS £ 674.00

P.V =3(3.161) =9.483

NPV=PV-Initial Investment

=9.483-10

= (0.517)

: NPV at 17.5% IS (£517)

(C) IRR 12.5% + 674/674-(-517) x (17.5%-12.5%)

=12.5% +0.565 (5%)

= 15.32%

(D) PAYBACK= Initial Investment/NCF

= 10,000 /3000

=3.333 =3 years 3.99 months

PROJECT: (B)

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YEAR NCF (£000) DCF (12.5%) PV (FOR12.5%) DCF PV

0 (25) (17.5%) (17.5%)

1 6.5 0.888 5.772 0.851 5.531

2 7 0.790 5.553 0.724 5.068

3 7.5 0.702 5.265 0.616 4.620

4 7.5 0.624 4.680 0.524 3.930

5 8 0.554 4.432 0.446 3.568

TOTAL=25.679 TOTAL=22.717

Now NPV =PV-Initial Investment

=25.679-25

= 0.679

NPVAT 12.5% IS £679

Now NPV =PV-Initial Investment

=22.717-25

= (2.283)

NPV at 12.5% is -£2.283(17.5% -12.5%)

=12.5% + 1.146%

=13.649

PAYBACK PERIOD:

Year NCF (£000) Cumulative NCF (£000)

0 (25)

1 6.5 6.5

2 7 13.5

3 7.5 21

4 7.5 28.5

5 8 36.5

Payback: = 3 +_4/7.5

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 = 3+0.533

= 3.533 (3 years)

ANS(C):-
THE DECISION ON PROJECT SELECTION :( PBP)

In the payback period project A should be selected because we have to look after how will it
take for the investment to pay for itself out of cash inflows it expected to generate in the
project A 1 to 5 years. Investment is same like £3000 but NCF every year increasingly £3000,
and assuming that it occurs evenly during the year, it will take a year or 0.5 years for final
£15,000 to be recovered. The payback period is therefore 3 years.

THE DECISION ON PROJECT SELECTION :( NPV)

If the project is mutually exclusive, than project A should be undertaken until it has the
highest NPV and will lead to the largest increase in shareholders wealth. If the project are not
mutually exclusive and there is no limit on capital available for investment

AP Ltd in project A offers positive NPV with £25.679 and would boost shareholders assets
given that the proposals are equally limited so project A should be selected. Also cash flow in
year 4 and 5 of project B should be investigated. They are not very large and they are critical
to the project, since without then it would have a negative NPV and would therefore lead to a
decreased in shareholders wealth.

THE DECISION ON PROJECT SELECTION :( IRR)

All two projects have an IRR cost of capital 12.5% and 17.5%,so all both of them acceptable
if there is no restriction on available capital, if the projects are mutually exclusive, while it is
not possible to selected the best project by using IRR method. Project A should be selected in
IRR system. We have to decide that the projects are ranked in a different way using IRR than
they are using NPV.IRR of an investment project is the cost of capital or required rate of
return which, when used discounted factor the cash flow of a project, produces a net present
value of zero(0).IRR generally used by linear interpolation.

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ANS :-( D)
Discounted cash flow is most important concept in financial decision. It’s also called as “time
value of money”. When DCF applies in any situation in once time paid at one point and
received different point.DCF analysis is capital budgeting technique, logically, the discounted
rate to be applied to the expected cash flow of real investment opportunities within the
business should be opportunities cost of finance to support the investment. This discount rate
must be related to the cost of individual sources in some way.DCF analysis can help business
to decided whether to make certain investment one of most useful application DCF analysis is
for business valuation purposes.

 Capital assets pricing model seems to be investors should expand satisfactorily to

remove most of the specific risk from their portfolios. There look like to be no
rewards for manner specific risk.
 Investor should decide whether they wish to invest in high risk, medium risk or low
risk securities.

ANS :-( E)
If the cost of capital increased:-than NPV with happening the discount rate changed
(increased-assume it change from 12.5% to 17.5%) to return a higher cost of capital.
The NPV using new and higher discount rate was actually better than the NPV with
lower discount rate.
 Supposed NPV calculation is given above since NPV positive, the project can
be recommended on financial grounds. If NPV is not huge than we have to
decide predict and estimates are as accurate as possible, a small increased
price rises during the life of the project might make the project too expensive.
 If the coat of capital increased to NPV than we have to using greater discount
value for company outflow in the early years to inflow in next year’s. The
effect of this lower the value of the outflows, while increasing company NPV,
might be error in cost of capital increasing in the year early. So outflow years
not increasing in the term of company investment or reducing inflow in next
year’s.
If the cost of capital decreased:-than NPV, might be something wrong with project
when cost of capital decreased while NPV ongoing constant. So no reason being
increased and decreased discounting factor rate. it is simple, the lower the discount
rate .the higher NPV my point of view cost of capital in unlevered cost of equity .so
inflation is going constant and there is no debt all over planning of the company and
also market risk premium is also content many time weighted average cost of capital
not be constant during the period because the target structure of capital employed
changes over the period.

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ANS ;-( F)
In the term of long term project NPV relatively uses cash flow rather than accounting profit,
takes account of both the amount and the timing of project cash flows. And takes account of
all relevant cash flow over the life of the investment. If the long time project is mutually
exclusive, then all projects should be taken till it has the highest NPV. if the project is not
large than they are critical to the project ,since without them it would have a negative NPV
and would therefore lead to a decreased in shareholder wealth. When long term project
investment, we have to tend to assume not only that the company’s cost of capital is known,
but also that it residue steady over the life of the project. The cost of capital seems to be
transform larger than the life of the project, since it is influenced by the self-motivated
profitable surroundings inside which all industry is conducted. When NPV of a relatively
long term project is more sensitive to changes in the cost of capital increasable shareholders
wealth and its best for the company project, cash flow rather than accounting profit, picked
up both of them account and particular time frame project cash flow, and tasks account of all
relevant cash flow over the life of an investment projects.

ANS :( G)
The internal rate of return of an investment projects is the cost of capital or required rate
of return which, when used to discount the cash flows of a project, produces a net present
value of zero. The cost of capital adversely affected to IRR method. When calculation of
IRR is higher than the true reinvestment rate for temporary cash flows, the calculate will
overestimate-sometimes very importantly, the yearly equal come again from the project.
A simple decision making criteria can be stated to accept a project if its IRR exceeds the
cost of capital and rejected if this IRR is less than the cost of capital, while it should be
kept in mind that the use of IRR may resulted in a number of complexities such as a
project with multiple IRR or no IRR, if IRR negative than assuming that cash flow are
reinvested at a constant rate. The internal rate of return is the discount rate that gives the
projects a zero NPV. Identifying the IRR, at least by hand, can be difficult.

ANS :-( H)
NPV indicates the value and the importance of project or investment included to the firm
or organisations value. If NPV positive that means accepted the project, when NPV project
undertaken while value of the buyers increased in the term of shareholders’ wealth .if NPV=0
than projects costs should be benefits. With a use of one investment project in both methods
straight cash flow is being evaluated.NPV method may be preferred:

 When both project are commonly compared

 When cash flow and project are not straight
 In the term of project every time discount factors changing.

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  The NPV has several important advantages over the internal rate of
return.NPV is often simpler to use. The IRR method needs to hunting. For
the discounted rate that result in a net present value of zero.
 Like NPV, IRR takes full account both of the cash flows and of the time value
of money.
 IRR can’t cope with differing required rates of return.IRR provides an average
for a particular investment project. This rate also compare with need to rate of
return make decision on the project. The reasons why required rate may differ
from year to next include the option that market interest rates might alter over
the time. This situation no problem with NPV because, it is perfectly logical to
use different discount rates for each year’s cash flow.
 The IRR model does not always produce clear and decided results. The IRR
unknown factor is, however, raised that goes beyond one time period will usually
have as many IRR as there are time period.
 In the term of investors, NPV work will better than easy to get investor
understanding all actual figures and investigate projects is concern, the IRR will
give percentage which can be better understood by managers.
 NPV method best suitable for long term projects better as contrasting th IRR
which gives better accuracy on short term project with consistent inflow or
outflow figures.

CONCLUSION:-
Capital investment to allowed companies to contribute to generate cash flow in the future
or to maintain the profitability of existing business activities. Capital investment decision
affects a company over a long period of time.. In the payback period is the number of
years its take to recover the original investment from the cash flows resulting from a
capital investment projects. And NPV method takes time value of money and the amount
and timing of all relevant cash flows over the life of the project.NPV method gives
correct investment information when comparing mutually exclusive projects; IRR might
not. The IRR method involves the calculation of the discount rate gives an NPV of zero
(0).the IRR decision rule is to accept all projects with an IRR greater than the company
target rate of return.

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REFERENCE AND BIBLIOGRAPHY:
http://www.finance30.com/forum/topics/npv-improves-with-increase-in?
commentId=1987892%3AComment%3A535999

http://www.fao.org/docrep/w4343e/w4343e07.htm

http://www.rdboehme.com/MBA_CF/Chap_7.pdf

Corporate finance (principals and practice) fourth edition Author: Denzil Watson and Antony
Head, Sheffield Hallam University

http://www.investopedia.com/ask/answers/05/npv-irr.asp

http://en.wikipedia.org/wiki/Internal_rate_of_return

http://searchcrm.techtarget.com/answer/Definitions-NPV-IRR-ROI-and-payback

http://hadm.sph.sc.edu/courses/econ/invest/invest.html

http://www.scribd.com/doc/6049030/Investment-Appraisal-thesis

Valuing business 5th edition, the analysis and appraisal of closey held companies McGraw hill
library of investment and finance by Shannon p Pratt -5 star review.

http://search.4shared.com/q/1/investment%20appraisal

http://www.differencebetween.net/business/difference-between-npv-and-irr/

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