Evaluating Investment Proposals using NPV and IRR Methods
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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...................................................................................................................................
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 isprovidetravelling facilitiesto1.5 million peoplesothat itcangenerate 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. 3
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 secondaryinformationtocollectdataregardingCrossrailprojectandaccordinglybuild 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 DecisionMakingMethods,2011).Ontheotherhand,statisticalapproachwillassistin interpreting the numerical information so that benefits of Crossrail projects for local community of London can be identified effectively. Time Frame Activities/ duration in week246810121416 Analysing the contextual Defining realistic objectives Methodology Collectingqualitativeand quantitative data Data Analysis Estimating budgets Presenting whole project 4
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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: ExpensesAmount 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 5
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 6
No Maybe TASK 2 2.1 & 2.2 Mean, Mode and Median Table1: Descriptive Anlaysis AmountSpent (£) No.ofcustomers (f) Mid- value(x)fx Cumulative Frequency (CF) 10-20201530020 20-30222555042 30-40203570062 40-50144563076 50-60165588092 60-701065650102 70-80875600110 80-90685510116 90-100495380120 1205200 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 ofCarmenclothingshopcantakedecisionsregardingin-storepromotionofthe segments. Mean = Total of fx/ Total of number of customers = 5200/120 7
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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 Table1: Measure of Dispersion Amount Spent (£) No.ofcustomers (f)Mid- value(x)X^2fx^2fx 10-2020152254500300 20-30222562513750550 30-402035122524500700 40-501445202528350630 50-601655302548400880 60-701065422542250650 70-80875562545000600 80-90685722543350510 90-100495902536100380 8
120495332252862005200 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. 9
Percentile: This statistical measure helps in defining the value that falls under a below given set of percentage. For instance: 25thpercentile falls under the observation of 25 percentage of total value. Lower quartile/25th percentile24.5 Upper quartile/75th percentile58.8 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 range34.2 2.4 Calculate correlation coefficient using the additional information provided and discuss it advantages to a business Sales (Units)Discounts (%) 201 404 506 556 6010 7012 8013 9014 10015 The correlation coefficient of sales and discount are given below: Table1: Correlation and Coefficient ParticularSales (Units)Discounts (%) Sales (Units)10.97 Discounts (%)0.971 10
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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 22 0 0 32 0 0 42 0 0 52 0 0 62 0 0 72 0 0 82 0 0 92 0 1 02 0 1 12 0 1 22 0 1 32 0 1 42 0 1 5 0 1000 2000 3000 4000 5000 6000 7000 Line Graph Advertising Cost £'000sSales £'000s Figure1: Line graph Pie Chart: 11
240 180 160 140 130 Net Income Generated by 5 Branches of the company in 2015 LondonManchesterEdinburghCardiffLiverpool Figure1: Net Income Generated by 5 Branches of the company in 2015 Bar Chart: LondonManchesterEdinburghCardiffLiverpool 0 50 100 150 200 250 240 180160140130 Net Income Generated by 5 Branches of the company in 2015 Figure1: Bar Graph of Net Income Generated by 5 Branches of the company in 2015 Advertising Costs and Sales Data of2002 – 2015: 12
20022003200420052006200720082009201020112012201320142015 0 500 1000 1500 2000 2500 3000 3500 4000 4500 5000 2002403003404004805207608809209801020110011701200140015001800 220023002600280029003100 34503600 4100 4670 Advertising and Sales data 2002-2015 Advertising Cost £'000sSales £'000s Figure1: Advertising and Sales data 2000-2013 Scatter Plot on Advertising costs and sales 0200400600800100012001400 0 500 1000 1500 2000 2500 3000 3500 4000 4500 5000 Advertising and Sales data 2002-2015 Figure1: 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 13
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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: 20022003200420052006200720082009201020112012201320142015 0 200 400 600 800 1000 1200 1400f(x) = 197.035373272055 exp( 0.141751876255229 x ) R² = 0.958414260153368 Advertising Cost £'000s Figure1: Advertising costs Trend line of Sales 20022003200420052006200720082009201020112012201320142015 0 500 1000 1500 2000 2500 3000 3500 4000 4500 5000 f(x) = 1198.88327524441 exp( 0.0975870724629485 x ) R² = 0.975259927654925 Sales £'000s Figure1: Sales 3.4 Formal Business Report To, 14
The Board of Directors of Clothing Company Date: 9thDecember 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 Toconductthepresentstudyinreliablemannerinvestigatorhasselectedgraphical 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. 15
TASK 4 4.2 Prepare a network diagram for activities using Microsoft Project Figure1: 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 NameDurationStartFinishPredecessors Physical preparation4 daysMon 12/7/15Thu 12/10/15- Organisational planning3 daysFri 12/11/15Tue 12/15/15A Personal selection15 daysFri 12/11/15Thu 12/31/15A Equipment installation10 daysWed 12/16/15Tue 12/29/15B Personnel training4 daysWed 12/30/15Mon 1/4/16D Detailed system designing6 daysTue 1/5/16Tue 1/12/16E File conversion9 daysWed 1/13/16Mon 1/25/16F Establishmentof standards2 daysFri 1/1/16Mon 1/4/16C Program preparation10 daysWed 12/16/15Tue 12/29/15B 16
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Program testing9 daysWed 12/30/15Mon 1/11/16D Finishing Documentation12 daysTue 1/26/16Wed 2/10/16G, H, I, J Follow Up20 daysThu 2/11/16Wed 3/9/16K Prepare a Gantt chart and state the benefits of using it as a Project Management Tool Figure1: 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 17
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%: Table1: Project A @ 10% Project A YearCash flowsPV factor @10%Amount 1550000.90949995 2670000.82655342 3720000.75154072 4800000.68354640 5900000.62155890 Total269939 Less: Initial Investment200000 NPV69939 Project A @ 20%: Table1: Project A @ 20% Project A YearCash flowsPV factor @30%Amount 1550000.7742350 2670000.5939530 3720000.4633120 4800000.3528000 5900000.2724300 Total167300 Less: Initial Investment200000 NPV-32700 18
Project B @ 10%: Table1: Project B @ 10% Project B YearCash flowsPV factor @10%Amount 1420000.90938178 2750000.82661950 3820000.75161582 4630000.68343029 5350000.62121735 Total226474 Less: Initial Investment200000 NPV26474 Project B @ 20%: Table1: Project B @ 20% Project B YearCash flowsPV factor @30%Amount 1420000.7732340 2750000.5944250 3820000.4637720 4630000.3522050 5350000.279450 Total145810 Less: Initial Investment200000 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). 19
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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. 20
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Mean,modeandmedian.2015.[Online].Availablethrough: <http://www.bbc.co.uk/schools/gcsebitesize/maths/statistics/measuresofaveragerev6.shtm l>. [Accessed on 9thDecember 2015]. 22