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Evaluating Investment Proposals using NPV and IRR Methods

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Added on  2019/12/03

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Case Study
AI Summary
The assignment evaluates the suitability of two investment proposals (Project A and Project B) using net present value (NPV), internal rate of return (IRR), and discounted cash flows. It is recommended to invest in Project A due to its higher NPV at a 10% discount factor and higher IRR compared to Project B.

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BUSINESS DECISION
MAKING

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TABLE OF CONTENTS
INTRODUCTION................................................................................................................................
TASK 1.................................................................................................................................................
Background..................................................................................................................................3
Rationale......................................................................................................................................3
Objectives of the research............................................................................................................3
Methodology................................................................................................................................4
Data Analysis...............................................................................................................................4
Time Frame..................................................................................................................................4
Budget section.............................................................................................................................5
Questionnaire...............................................................................................................................5
TASK 2.................................................................................................................................................
2.1 & 2.2 Mean, Mode and Median.............................................................................................7
2.3 Range and Standard Deviation..............................................................................................8
2.4 25th Percentile (Lower 25th Percentile (Lower Quartile) and 75th Percentile (Upper
Quartile) and use of Percentile....................................................................................................9
TASK 3...............................................................................................................................................
3.1 & 4.1 Produce line graph.....................................................................................................11
Scatter Plot on Advertising costs and sales...............................................................................13
3.2 & 4.1 Trend Lines................................................................................................................14
3.4 Formal Business Report.......................................................................................................14
TASK 4...............................................................................................................................................
4.2 Prepare a network diagram for activities using Microsoft Project......................................16
Calculate Project Duration.........................................................................................................16
Clearly mark the Critical Path...................................................................................................16
Prepare a Gantt chart and state the benefits of using it as a Project Management Tool............17
TASK 4 B...........................................................................................................................................
4.3 Calculation of Net present value and Internal rate of return...............................................17
Recommendations......................................................................................................................20
CONCLUSION..................................................................................................................................
REFERENCES...................................................................................................................................
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INTRODUCTION
In the current business environment, decision making play crucial role in establishing the
operations of business as well as ensuring long term sustainability. In general, business decision
making refers to the process of selecting best among the alternatives (Hedgebeth, 2007). In the
present report, researcher focuses on evaluating different scenarios and accordingly makes
decisions for the suitable results and outcomes. Further, it includes range of statistical tools and
techniques by the means of which different requirement will be satisfied. Along with this,
graphical presentation has been indulged to present the collected data in effective and efficient
manner. Lastly, with the help of investment appraisal techniques decision will be made regarding
selection of suitable and reliable investment proposals.
TASK 1
Background
According to the given case study, Government of UK is planning to start a Crossrail
Project with the aim of enhancing the local transport within London. The main purpose of this
project is provide travelling facilities to 1.5 million people so that it can generate key
employment, leisure and other business activities. Furthermore, it will enhance the journey times
across London to easing congestion and offering better and affordable connections (Badenhorst-
Weiss and et.al, 2008). Along with this, through the help of this project, Government of UK will
change the way of people travel around the capital.
Rationale
The main purpose of conducting this project is to enhance the level of travelling for the
local people and the visitors. Along with this, to minimize the road traffic so that level of
pollution can be managed and controlled. Furthermore, researcher focuses on evaluating the
benefits of Crossrail project for the local community. Therefore, researcher through the help of
this study will investigate different aspects about the project and provide detailed information to
the government officials.
Objectives of the research
The main objective of this study is to determine the benefits of Cross Rail project for the
local community of London. Along with this, to estimate budget and time frame for carrying out
the whole project. The three main objective of research are as follows.
To identify the benefits that this project will give to general public.
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To identify whether this project will contribute to growth of economy of London.
To identify that this whether this project will help in controlling congestion on railway
station.
Methodology
According to the present given scenario, researcher is focusing on using both primary and
secondary information to collect data regarding Crossrail project and accordingly build
understanding regarding benefits of the project to local community. Furthermore purposive
sampling technique has been selected because managers associated with the Crossrail project are
required to generate wide range of information. Sample size of will be 30 senior managers.
Firstly, through the means of qualitative techniques researcher will be able to enhance the
understanding regarding the perception of local people towards the project (Day, 2005). Along
with this, using quantitative techniques will assist in collecting numerical data for the benefits to
the people. In primary section, people of London will be provided questionnaire and accordingly
reliable and valuable information will be collected.
Data Analysis
In the present study, investigator will use thematic as well as statistical approaches to
analyse the collected information. However, thematic analysis will assist in evaluating the
subjective or qualitative information generated through the means of different sources (4
Decision Making Methods, 2011). On the other hand, statistical approach will assist in
interpreting the numerical information so that benefits of Crossrail projects for local community
of London can be identified effectively.
Time Frame
Activities/ duration in week 2 4 6 8 10 12 14 16
Analysing the contextual
Defining realistic objectives
Methodology
Collecting qualitative and
quantitative data
Data Analysis
Estimating budgets
Presenting whole project
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Budget section
Following is the budget section for carrying out the research on Crossrail Project.
However, overall amount is estimated at £1200 which is further bifurcated in the following
segments:
Expenses Amount
Research collection from secondary data £300
Research collection from Primary data £500
Stationary costs £200
Fuel Cost £120
Miscellaneous expenditure £80
Total £1200
Questionnaire
In order to collect data, researcher focuses on using survey methodology in which
questionnaire will be distributed to local people of community:
Name:
Ques1: Gender
Male
Female
Ques2: Age:
16-20 years
21-25 years
26-30 years
31-35 years
36-40 years
41-45 years
>46 years
Ques3: Are you aware about the “Crossrail” project of the government of UK?
Yes
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No
Ques4: According to you what are the major benefits of the cited project of the UK Government?
Enhancing travel experience
Improved connectivity
New experience of travelling around the capital
Easy Overcrowding
Ques5: Do you think, Crossrail project have increased the employment opportunities?
Yes
No
Ques6: Please tick as appropriate, Crossrail project will ensure future economic growth in the
London?
Strongly Agree
Agree
Neutral
Disagree
Strongly Disagree
Ques7: Are you interested in using the services offered by Crossrail Project?
Yes
No
Ques8: Do you believed that, Crossrail project will improve the rail transportation and cut journey
time across city?
Yes
No
Ques9: Will “Cross Rail” improve the congestion on London Central roads?
Yes
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No
Maybe
TASK 2
2.1 & 2.2 Mean, Mode and Median
Table 1: Descriptive Anlaysis
Amount Spent
(£)
No. of customers
(f)
Mid-
value(x) fx
Cumulative
Frequency (CF)
10-20 20 15 300 20
20-30 22 25 550 42
30-40 20 35 700 62
40-50 14 45 630 76
50-60 16 55 880 92
60-70 10 65 650 102
70-80 8 75 600 110
80-90 6 85 510 116
90-100 4 95 380 120
120 5200
Through the help of above descriptive analysis various elements has been analysed so
that managers can made decisions in-store promotion (Mean, mode and median. 2015).
Mean: It refers to the sum of all the collected numeric information from different sources
or methods (Schraeder and Morrison, 2005). According to the present study, mean of
number of customers and their actual spending of cloths has been evaluated so that owner
of Carmen clothing shop can take decisions regarding in-store promotion of the
segments.
Mean = Total of fx/ Total of number of customers
= 5200/120
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Mode: It is the number which frequently appears within the collected information for the
present study (Aripin, Tower and Taylor, 2011). The amount spend by customers of £20-
£30 has the highest frequency of 22 customers. Hence, mode for the present study is as
follows:
Mode = Lmo + (Δ1/ Δ1 + Δ2) * i
= 20 + (22-20) / (22-20) + (22-20)* 10
= 25
Median: In statistical term, it is the middle value of the collected information. Thus,
median for present study is:
Median = lower limit + (60- CF of previous class interval)/Frequency * class interval
= 30 + (60-42)/20*10
= 30+18/20 *10
= 30+9
= 39
2.3 Range and Standard Deviation
Table 1: Measure of Dispersion
Amount Spent (£)
No. of customers
(f) Mid- value(x) X^2 fx^2 fx
10-20 20 15 225 4500 300
20-30 22 25 625 13750 550
30-40 20 35 1225 24500 700
40-50 14 45 2025 28350 630
50-60 16 55 3025 48400 880
60-70 10 65 4225 42250 650
70-80 8 75 5625 45000 600
80-90 6 85 7225 43350 510
90-100 4 95 9025 36100 380
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120 495 33225 286200 5200
Measure of dispersion refers to the process by the means of which investigator evaluate
how wide spread the set of given data is in the defined variables. There are three major elements
of measure of dispersion such as: Standard deviation, Range and variance. Following are the
computation of these elements:
Standard Deviation: With help of standard deviation, researcher can easily identify the
variation between given set of information (Byrne, McAllister and Wyatt, 2011). In the
present study, standard deviation assist owner of Carmen clothing shop to whether stick
below 40 price range or increase it above 40.
Variance = s2 = ∑Fx2 – ((∑Fx)2 /n)/ n – 1
Variance = 511.48
Standard Deviation = S= √s2
Standard Deviation = 22.61
Range: Range helps in computing the different between highest value and lowest value in
the collected information or data (Sucky, Aksoy and Ozturk, 2012).
Range = (100-(10/ (20+1))-(10/ (4+1)))
Range = 97.52
2.4 25th Percentile (Lower 25th Percentile (Lower Quartile) and 75th Percentile (Upper Quartile)
and use of Percentile
Quartile:
In general, quartile refers to the statistical approach of dividing set of numbers into four
different quarters. All the quarters are denoted with: Q1, Q2, Q3, and Q4. In this, first quartile
(Q1) illustrates the middle number between smallest number and the median of the defined set of
data (Morato, 2013). While second quartile (Q2) denotes median of the data and Third quartile
(Q3) refers to the middle number between highest number and the median of the defined set of
data.
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Percentile:
This statistical measure helps in defining the value that falls under a below given set of
percentage. For instance: 25th percentile falls under the observation of 25 percentage of total
value.
Lower quartile/25th percentile 24.5
Upper quartile/75th percentile 58.8
Interquartile range:
In general, inter-quartile range can be defined as the measure of variability which
depends upon dividing given set of data into four different quarters. In other words, it is the
difference between upper quartile and lower quartile.
Interquartile range 34.2
2.4 Calculate correlation coefficient using the additional information provided and discuss it
advantages to a business
Sales (Units) Discounts (%)
20 1
40 4
50 6
55 6
60 10
70 12
80 13
90 14
100 15
The correlation coefficient of sales and discount are given below:
Table 1: Correlation and Coefficient
Particular Sales (Units) Discounts (%)
Sales (Units) 1 0.97
Discounts (%) 0.97 1
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As per the formula R2 =0.97
On the basis of above computation of correlation coefficient it has been evaluated that,
sales and discounts are highly correlated to the each other. Hence, if the units of sales increases,
discount rates also increase and vice-verse.
TASK 3
3.1 & 4.1 Produce line graph
According to the given case study, Managing Director of Clothing Company that import
cloths from different parts of the world so that diverse needs and wants of customers can be
satisfied. In regard to this, data of last 10 years has been extracted regarding sales and advertising
costs.
Line graph:
2 0 0 2 2 0 0 3 2 0 0 4 2 0 0 5 2 0 0 6 2 0 0 7 2 0 0 8 2 0 0 9 2 0 1 0 2 0 1 1 2 0 1 2 2 0 1 3 2 0 1 4 2 0 1 5
0
1000
2000
3000
4000
5000
6000
7000
Line Graph
Advertising Cost £'000s Sales £'000s
Figure 1: Line graph
Pie Chart:
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240
180
160
140
130
Net Income Generated by 5 Branches of the
company in 2015
London Manchester Edinburgh Cardiff Liverpool
Figure 1: Net Income Generated by 5 Branches of the company in 2015
Bar Chart:
London Manchester Edinburgh Cardiff Liverpool
0
50
100
150
200
250
240
180 160 140 130
Net Income Generated by 5 Branches
of the company in 2015
Figure 1: Bar Graph of Net Income Generated by 5 Branches of the company in 2015
Advertising Costs and Sales Data of 2002 – 2015:
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2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015
0
500
1000
1500
2000
2500
3000
3500
4000
4500
5000
200 240 300 340 400 480 520 760 880 920 980 1020 1100 11701200 1400 1500 1800
2200 2300 2600 2800 2900 3100
3450 3600
4100
4670
Advertising and Sales data 2002-2015
Advertising Cost £'000s Sales £'000s
Figure 1: Advertising and Sales data 2000-2013
Scatter Plot on Advertising costs and sales
0 200 400 600 800 1000 1200 1400
0
500
1000
1500
2000
2500
3000
3500
4000
4500
5000
Advertising and Sales data 2002-2015
Figure 1: Scatter Plot on Advertising costs and sales
On the basis of above illustration of graphical presentation it has been analysed that, sales
performance of Clothing Company is showing fruitful and attractive outcomes. However, the
means reason behind this could be changing trends and environment has increased the demand
for imported products and services from different countries. Along with this, with advancement
in marketing prospects has increased the costs for advertising. However, use of social media and
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digital advertising has led the firms to invest huge amount in marketing so that they can attract
large number of audience and generate greater demand.
3.2 & 4.1 Trend Lines
Trend lines of Advertising costs:
2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015
0
200
400
600
800
1000
1200
1400 f(x) = 197.035373272055 exp( 0.141751876255229 x )
R² = 0.958414260153368
Advertising Cost £'000s
Figure 1: Advertising costs
Trend line of Sales
2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015
0
500
1000
1500
2000
2500
3000
3500
4000
4500
5000
f(x) = 1198.88327524441 exp( 0.0975870724629485 x )
R² = 0.975259927654925
Sales £'000s
Figure 1: Sales
3.4 Formal Business Report
To,
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The Board of Directors of Clothing Company
Date: 9th December 2015
Subject: Information on sales performance of the company in past 10 years
INTRODUCTION
Clothing Company is focusing on enhancing its business operations as its imported clothing
products are generating great demand within the people of UK. Thus, report illustrates the sales
performance of its 5 different branches and for which sales data of last 10 year has been evaluated
and presented in graphical manner.
Methodology
To conduct the present study in reliable manner investigator has selected graphical
presentation approach with the aim of presenting data in systematic manner so that reader and
learners can understand it in suitable way (Newbold and et. al, 2009). Along with this, through the
means of graphical presentation, investigator is able to present trend lines of advertising cost and
overall sales for the future five years.
Findings
By the help of above graphical presentation it has been identified that, sales performance of
clothing company is enhancing constantly as there is high demand for imported products and
services. However, pie chart illustrates that, London is the most effective branch in terms of
generating net income for the company. Similar to this, Manchester branch is also helping the course
of company’s sales performance. However, through the help of trend lines it can be said that, sales
performance of Liverpool and Cardiff will improve in coming years as trend line is showing growing
results.
Conclusion
In conclusion it can be said that, owners should make valiant efforts as there is high growing
opportunities for them in coming future. Furthermore, company is recommended to use appropriate
marketing tools and techniques so that better demand and awareness can be created.
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TASK 4
4.2 Prepare a network diagram for activities using Microsoft Project
Figure 1: Network Diagram
Calculate Project Duration
Critical Path: 1+2+4+5+6+7+11+12
Critical Path duration: 4+3+10+4+6+9+12+20 = 72 days
Clearly mark the Critical Path
Task Name Duration Start Finish Predecessors
Physical preparation 4 days Mon 12/7/15 Thu 12/10/15 -
Organisational planning 3 days Fri 12/11/15 Tue 12/15/15 A
Personal selection 15 days Fri 12/11/15 Thu 12/31/15 A
Equipment installation 10 days Wed 12/16/15 Tue 12/29/15 B
Personnel training 4 days Wed 12/30/15 Mon 1/4/16 D
Detailed system designing 6 days Tue 1/5/16 Tue 1/12/16 E
File conversion 9 days Wed 1/13/16 Mon 1/25/16 F
Establishment of
standards 2 days Fri 1/1/16 Mon 1/4/16 C
Program preparation 10 days Wed 12/16/15 Tue 12/29/15 B
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Program testing 9 days Wed 12/30/15 Mon 1/11/16 D
Finishing Documentation 12 days Tue 1/26/16 Wed 2/10/16 G, H, I, J
Follow Up 20 days Thu 2/11/16 Wed 3/9/16 K
Prepare a Gantt chart and state the benefits of using it as a Project Management Tool
Figure 1: Gantt chart
Benefits of Project management tools:
There are various pros of using project management tool such as it helps in delegating the
tasks effectively, manage the project to stay on schedule, tracks the report of projects, enhance
and ensure the quality of deliverables and increases the reliability and validity of the project.
TASK 4 B
4.3 Calculation of Net present value and Internal rate of return
Investment appraisal techniques can be defined as the method of analyzing the validity
and suitability of an investment proposal (Williams, 2001). In present era, these are the most
common tools used by the top level management of the firm so that smart decision can be made
on selection of the project. There are several techniques of appraisals: NPV and IRR.
Net Present Value:
Apart from all, NPV is considered as the most effective tool for evaluating the reliability
and feasibility of the investment proposal (Ho, Liu and Tsay, 2008). However, under net present
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value method, all the cash inflows are discounted at the predetermined rate of PV factor such as
in the present case it is discounted at 10%. However, the main reason behind using this approach
while evaluating the suitability of investment proposal is that it considers time value for money.
Furthermore, higher value of NPV means project is good for the investment.
Initial Investment: £200000 in both the Projects
Project A @ 10%:
Table 1: Project A @ 10%
Project A
Year Cash flows PV factor @10% Amount
1 55000 0.909 49995
2 67000 0.826 55342
3 72000 0.751 54072
4 80000 0.683 54640
5 90000 0.621 55890
Total 269939
Less: Initial Investment 200000
NPV 69939
Project A @ 20%:
Table 1: Project A @ 20%
Project A
Year Cash flows PV factor @30% Amount
1 55000 0.77 42350
2 67000 0.59 39530
3 72000 0.46 33120
4 80000 0.35 28000
5 90000 0.27 24300
Total 167300
Less: Initial Investment 200000
NPV -32700
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Project B @ 10%:
Table 1: Project B @ 10%
Project B
Year Cash flows PV factor @10% Amount
1 42000 0.909 38178
2 75000 0.826 61950
3 82000 0.751 61582
4 63000 0.683 43029
5 35000 0.621 21735
Total 226474
Less: Initial Investment 200000
NPV 26474
Project B @ 20%:
Table 1: Project B @ 20%
Project B
Year Cash flows PV factor @30% Amount
1 42000 0.77 32340
2 75000 0.59 44250
3 82000 0.46 37720
4 63000 0.35 22050
5 35000 0.27 9450
Total 145810
Less: Initial Investment 200000
NPV -54190
Internal rate of return:
In regard to evaluate the feasibility of an investment proposal, managers often use
internal rate of return method. Likewise NPV, this method also considers time value for money
and due to which it also possess great importance in making the decisions (Swart, 2004).
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Furthermore, through the means of IRR, managers can analyze the potential profit of the
investment in terms of percentage. Following is computation of IRR for the present projects:
Internal rate of return = lower discount rate + NPV at lower discount rate/ NPV at lower rate -
NPV at higher rate* (Higher discount rate – discount rate)
Project A = 0.10+69939/ (69939-(-32700))*(0.30-0.10)
= 23.63%
Project B = 0.10 + 26474/ (26474-(-54190) * (0.30-0.10)
= 16.56%
Recommendations
With the help of above computation of appraisal techniques researcher has been able to
evaluate that, NPV at 10% discount factors illustrate that, Project A (69939) is showing high
outcomes as compared to Project B (26474). Therefore, on the basis of 10% discount factor
management is recommended to invest in project A. while on the other part of it, NPV at 20%
discounted rate, Project A is showing positive outcome of 8741 in comparison to the negative
value of Project B -21050. Along with this, internal rate of return is of Project A is also higher
than project B. Thus, it is recommended to top level management of the company to invest in
Project A as it will help in generating higher results and outcomes.
CONCLUSION
In conclusion to the above report it has been evaluated that, operating the present
corporate market it is crucial for the managers to make smart and effective decisions regarding
executing business operations. Therefore, present report illustrated that, through the help of
descriptive analysis managers can develop accurate understanding regarding the position of
business and then make suitable decisions. Along with this, graphical presentation assist owner
of Carmen Clothing Company in showing the sales growth. Lastly, through the help of
investment appraisal techniques Project A has been recommended to the company for the
potential future investment.
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REFERENCES
Journals and Books
Aripin, N., Tower, G. and Taylor, G., 2011. Insights on the diversity of financial ratios
communication. Asian Review of Accounting. 19(1). pp. 68 – 85.
Badenhorst-Weiss, H. and et. al., 2008. Business Management: A Contemporary Approach. Juta
and Company Ltd.
Byrne, P., McAllister, P. and Wyatt, P., 2011. Precisely wrong or roughly right? An evaluation of
development viability appraisal modelling. Journal of Financial Management of
Property and Construction. 16(3). pp. 249 – 271.
Day, A., 2005. Mastering Financial Mathematics with Excel: A Practical Guide for Business
Calculations. Financial Times/Prentice Hall.
Hedgebeth, D., 2007. Data-driven decision making for the enterprise: an overview of business
intelligence applications. VINE, 37(4). pp.414 - 420.
Ho, J. C. L., Liu, S. C. and Tsay, J., 2008. "Further evidence on financial analysts' reaction to
enterprise resource planning implementation announcements". Review of Accounting and
Finance. 7(3) pp. 213 – 235.
Morato, A. E., 2013. Business Decision Making. eBookIt.com
Newbold, P. and et. al. 2009. Statistics for Business and Economics. Pearson Education.
Schraeder, M. and Morrison, R, 2005. Commander's evaluation in the context of business
decision-making: a multi-perspective approach. Development and Learning in
Organizations, 19 (4). pp.14 - 16
Sucky, E., Aksoy, A., and Ozturk, N. 2012. A decision support system for demand forecasting
in the clothing industry. International Journal of Clothing Science and Technology.
24(4). pp.221 – 236.
Swart, N., 2004. Personal Financial Mangement. Juta and Company Ltd.
Williams, S., 2001. Making Better Business Decisions: Understanding and Improving Critical
Thinking and Problem Solving Skills, SAGE.
Online
4 Decision Making Methods, 2011. [Online]. Available through <sourcesofinsight.com/4-
decision-making-methods/>. [Accessed on 9th December 2015].
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Mean, mode and median. 2015. [Online]. Available through:
<http://www.bbc.co.uk/schools/gcsebitesize/maths/statistics/measuresofaveragerev6.shtm
l>. [Accessed on 9th December 2015].
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