Evaluation Methods for Investment Decision Making - Business Case Study 2

ACC00716 Finance Session 3, 2018
Assessment 3: Business Case Study 2

TABLE OF CONTENTS
Introduction................................................................................................................................3
Explanation of project evaluation methods................................................................................3
Net Present Value...................................................................................................................3
Internal Rate of Return...........................................................................................................3
Payback Period Method.........................................................................................................3
Discounted Payback Period....................................................................................................4
Profitability Index..................................................................................................................4
Risk assessment of project on the basis of three sensitivities modelled....................................4
Reduction in sales volume by 10%........................................................................................4
Reduction in sales price by 20%............................................................................................4
Increase in initial investment by 10%....................................................................................4
Recommendation for acceptance of project...............................................................................4
References..................................................................................................................................5

INTRODUCTION
In the present report, the methods relating to evaluating the projects are discussed to guide
Pinto Limited for making an investment decision. In this aspect, the five major methods of
capital budgeting are assessed in the report along with its risk and sensitiveness. After
discussing and estimating the net present value, internal rate of return discounted payback
period and profitability index of the project the recommendation is provided regarding
whether the company should continue with the project or not.
EXPLANATION OF PROJECT EVALUATION METHODS
Net Present Value
Net present value (NPV) method refers to the present value of the future net cash flow from a
project in which the company is invested. The NPV of the company can be calculated
through discounting of cash flows with the accurate rate of interest which is the capital cost
of the company. Positive net present value shows that the project is beneficial for the
business.
Internal Rate of Return
The internal rate of return (IRR) can be defined as a discount rate at which the NPV of the
investment proposal is zero. In simple words, the situation when the sum of projects’
expected cash inflows and amount of initial investment is equal. This method depends on the
discounted cash flow technique (Ghiyasi, 2018). Furthermore, it is broadly used in capital
budgeting as well as while taking the investment decisions whether to selecting or to
repudiate the proposal. It is significant to consider that the project which exceeds the desired
rate of return of a company should be accepted.
Payback Period Method
Payback period assists the firm to assess the extent of time needed to recuperate the initial
cash expenditure in investment proposal. In other words, by application of this method, the
company can calculate the extent of time to recover the cost incurred on the proposal by
succeeding cash inflows (Schlegel, ] Frank and Britzelmaier, 2016). Under this method, the