Importance of Capital Investment Appraisal Process for S plc

This report discusses the importance of capital investment appraisal process for S plc, including cash flow preparation, payback period, net present value, IRR, and more. It also covers critical contrast between long term finance available, calculation of break even sales revenue, consequences of price change, and analysis of cost volume profit. Course code, course name, and college/university are not mentioned.

Business Report

TABLE OF CONTENTS
INTRODUCTION...........................................................................................................................3
TASKS.............................................................................................................................................3
Part A..........................................................................................................................................3
1) Description regarding importance of capital investment appraisal process...........................3
2) Preparation of cash flows for new investment........................................................................4
3) Determination of pay back period..........................................................................................4
4) Computation of net present value with comment...................................................................5
5) Stating the logic behind net present value approach accompanying their relationship with
cost of capital..............................................................................................................................5
7) Calculation of IRR with comment..........................................................................................6
8) Discussing why NPV is regarded to be superior to IRR........................................................6
Part B...........................................................................................................................................7
Critical contrast between long term finance available i.e., bank loan and equity issue..............7
Part C...........................................................................................................................................7
1) Calculation of break even sales revenue, sales revenue to achieve target profit of 120000
and margin of safety....................................................................................................................7
2) Consequences of increase/ decrease of price by 10%.............................................................8
3) Analysis of cost volume profit with assumptions and critical review on those......................9
Part D........................................................................................................................................10
1) Difference between categories of suppliers that are: strategic, preferred & transactional.. .10
2) Comparing advantages of single sourcing and multiple sourcing in context to procurement.
...................................................................................................................................................11
3) Description of cross sourcing with example and how it benefits the buyer.........................12
CONCLUSION..............................................................................................................................13
REFERENCES..............................................................................................................................14

INTRODUCTION
Business report consists of data which provides past informative data related to
organization's manufacturing, operations, department's comprehension, etc. that creates base for
the company to make decisions for future. Hence, for this project report S plc has been selected
who wants to add a new line of computer games to their highly flourishing product range. So for
this purpose, following report will show about the importance of capital investment process, why
it is crucial for the company. Further, project report will also depict various calculations that
becomes necessary to compute before taking decision regarding adding a new product.
Subsequently, report will include the sources that firm can choose to carry on its business
operations together with forecasting the estimated cost, sales & profits that can be faced by
organization. After moving forward, firm will look into the different kinds of suppliers & select
the next best alternative for its business entity.
TASKS
Part A
1) Description regarding importance of capital investment appraisal process.
Capital investment appraisal is very crucial for business entity because this will involve
company's resources, so before taking any decision firm must carry on investment appraisal
process. Some points exhibiting importance of such are mentioned below:
 Financing the project: Before implementation of new business idea, company must first
analyse the initial investment that will be required along with additional capital, needed
for further carrying on the project (Baum, Crosby and Devaney, 2021). Therefore,
company will able to determine that available capital resources is sufficient or not and if
not, than from where to arrange the funds.
 Involvement of company's resources: As large amount of company's resources are
involved, it becomes necessary for organization to carefully evaluate the requirement of
resources, both in terms of financial, non-financial & human (Xu, Yu and Gupta, 2020).
Therefore, by this organization's resources will not be wasted and appropriate decisions
will be taken before initiating the project.
 Determines if project will fit to the strategy made or not: Investment appraisal along
with demonstrating project's financial feasibility, they also help company in determining

that whether project made is moving exactly in the direction of strategy made or not
(Bateman, and Mace, 2020). Apart this, this process aid the company in preparing new
plan of action if it does not matches with the previous one.
 Maximization of shareholder's wealth: Introduction & implementation of project must
be such that, decisions taken regarding investment will fulfil the criteria regarding
maximizing shareholder's wealth. Furthermore, company will also look that firms desired
long term objectives are also achieved with this project.
2) Preparation of cash flows for new investment.
Particulars Year 1 Year 2 Year 3 Year 4 Year 5
Sales revenue (in £) 600 1000 1200 1000 800
Less: Cost of sales (in £) 180 300 360 300 240
Gross profit 420 700 840 700 560
Less: Expenses
Incremental operation costs (in £) 100 100 100 100 100
Depreciation 260 260 260 260 260
Net profit 60 340 480 340 200
Add: Depreciation 260 260 260 260 260
Cash flows 320 600 740 600 460
3) Determination of pay back period.
Particulars Year Cash inflows
Cumulative cash
inflows
1 320 320
2 600 920

3 740 1660
4 600 2260
5 460 2720
Remaining amount need to be recovered 380
Time period to recover leftover amount 0.514
Pay back period: 2.5 year
From the above table it has been computed that, for covering initial investment company
will take only 2 year 5 months. Therefore, S plc wants to cover it back within 3 year, so it is
concluded that the project should be accepted because it is meeting the demand of company very
well within its time frame.
4) Computation of net present value with comment.
Year Cash inflows PV factor
Discounted cash
inflow
1 320 0.833 266.667
2 600 0.694 416.667
3 740 0.579 428.241
4 600 0.482 289.352
5 460 0.402 184.864
Total of discounted cash inflows 1585.790
Particulars Amount
Total of discounted cash inflows 1585.79
Less: Initial investment 1300
NPV 285.790

The net present value determined from following project is 285.790, so result derived
from computation comes to be positive which indicates that earnings exceed their cost. Hence, S
plc should accept this project because it will lead to be profitable in the future.
5) Stating the logic behind net present value approach accompanying their relationship with cost
of capital.
The rationale behind calculating NPV is to determine the present value of all future cash
flows that will be generated by a project using discounting rate. Therefore, on the basis of this
after comparing it with an initial investment organization would evaluate that whether to invest
in a new capital project or not.
Relationship exist between net present value and cost of capital is direct, because NPV is
calculated using amount from future period & discount it to the current period's value (Visconti,
and Weis, 2020). Therefore, in order to determine the value correctly company will require
interest rate i.e., cost of capital, which is paid at the time of borrowing capital, either debt or
equity. Hence, it is proved that their exist direct relation between NPV and cost of capital.
7) Calculation of IRR with comment.
Year Cash inflows
0 -1300
1 320
2 600
3 740
4 600
5 460
Total of IRR: 28.95%
As company's project's internal rate of return is higher than its cost of capital by 8.95%
change, it is concluded that they should accept this project because it is termed to be viable for
investment.

Any change in the cost of capital will not affect internal rate of return because while
calculating IRR it does not include cost of capital.
8) Discussing why NPV is regarded to be superior to IRR.
Net present value estimates a company's future cash flows that can be generated from a
project by discounting them into present value by applying discounted rate i.e., representing
project's capital cost. The advantage to NPV is that, they can handle multiple discount rates
without any hindrance but on other hand, internal rate of return does not account for changing
discount rates, therefore it is not adequate for long term projects with varied discount rates.
Furthermore, net present value is used to determine how desirable a project is, whether it will
add value to the company or not (Arnold and Lewis, 2019). But, IRR can't be considered to be a
valid way to evaluate a project because it requires different discount rates for making an
appropriate decision. So, through this it can be concluded that net present value method is
superior to internal rate of return method and would be more beneficial for the company in
determining its worthiness.
Part B
Critical contrast between long term finance available i.e., bank loan and equity issue.
Company relies on various sources to support its business operations, therefore different
long term finance available for acquiring funds are bank loans and equity capital.
Bank loans are seems to be the cheapest source because cost of capital required for
acquiring funds are seems to be lower and their repayment date is also duly mentioned in
contract paper made at the time of receiving finance (Nicolas, 2021). Along with these banks
charge fixed interest rate on its principle amount & not demands for profit or a share of
company. Contrary to this, there are many disadvantages that company faces if they acquire
capital from bank loans are, firm need to repay the financial institution timely, whether company
is having sufficient cash flows or not. In addition to this, firm need to put their personal
possession as a security during getting loan.
Whereas, equity capital is issued by the company in stock market for getting subscribed
by numerous investors & it is considered to be a most costly source as compared to bank loans.
In equity issue, it is seen that there is no limitation for repaying the amount in form of dividend
to their investors if company has not made sufficient profits, on other hand, in the case of bank

loans firm comes under an obligation to make payment on mentioned tenure (Jiang, Shen and
Lee, 2021). While there is also not any requirement for company to keep their personal asset in
the form of security with stock exchange or investors, as it seems necessary in case of taking
bank loans. But, equity share faces with a drawback that organization's control goes into the hand
of shareholders, which is not faced in context to bank loans.
Part C
1) Calculation of break even sales revenue, sales revenue to achieve target profit of 120000 and
margin of safety.
Selling price per game 100
Variable cost per game 60
Fixed cost per annum specific to this game (in£) 300000
Desirable profit (in£) 120000
 Break even sales revenue:
Particulars Formula Amount
Break even sales revenue Fixed cost / Contribution
Fixed cost 300000
Selling price 100
Variable cost 60
Contribution 40
Break even sales revenue 750000
 Break even sales revenue to achieve desirable profit of 120000:
Particulars Formula Amount
Break even sales with desirable profit to be achieved
Fixed cost + desirable profit /
contribution
Fixed cost 300000

Desirable profit 120000
Selling price per unit 100
Variable cost per unit 60
Contribution 40
Break even sales per unit 10500
Break even sales revenue to achieve desirable
profit 1050000
 Margin of safety:
Particulars Formula Amount
Margin of safety (in£)
Sales – Break even sales
revenue
Sales (in£) 1050000
Break even sales revenue 750000
Margin of safety 300000
2) Consequences of increase/ decrease of price by 10%.
Price increased by 10%:
Particulars Amount
Sales (in£) 110
Variable cost 60
Contribution 50
Fixed cost 300000
Break even point 6000
Break even sales 660000
Price decreased by 10%:

Particulars Amount
Sales (in£) 90
Variable cost 60
Contribution 30
Fixed cost 300000
Break even point 10000
Break even sales 900000
The above computed table depicts that when the price per game increases by 10% than,
its break even point will be achieved earlier in comparison with 10% decrease of price. Whereas,
in context to break even point, BE sales achieved with rise in price is determined to be 660000
and is achieved earlier. On other hand, if price decreases than company will face BE sales to be
900000 later on with 10000 units of break even point. Therefore, it is concluded that profit of
company will be seen enhanced in situation of rise in price.
3) Analysis of cost volume profit with assumptions and critical review on those.
CVP analysis is used to determine that how company's operating income and net income
is affected with change in their product's costs & volume. Certain assumptions based on this
concept are as follows:
 In this cost are segregated into two parts that are fixed and variable, as well as in this it
is assumed that fixed cost at all level of outputs remains constant. However, this
analysis does not include semi variable cost & all the expenses are divided into variable
and fixed (Huels, and Weber, 2021). So, due to this ignorance of not including semi
variable head will lead in the decrease of company's performance.
 According to this concept it assumes that, fixed cost does not change during short term
as well as it denotes that cost & revenue relation is linear within a relevant range of
activities over a specified period. In addition to this, cost volume profit show, total
variable cost to be proportionate with sales volume. But in reality this assumption is
considered to be vague because no cost remains constant, fixed and variable nature
expenses changes in accordance with company's & market situation.

 Cost volume profit applies only to short term period, which increases the work of
organization in long-term time horizon. Moreover, during long period the situations,
operational work, etc. will change, so in this condition all the cost of the company
incurred on product would also alter (Hansen, Mowen and Heitger, 2021). Therefore,
their arises need for firm to re adjust all the figures according to the demand prevailing
that time.
Part D
1) Difference between categories of suppliers that are: strategic, preferred & transactional.
Particulars Strategic supplier Preferred supplier Transactional
supplier
Meaning They behave similar to
the other long term
suppliers. Strategic
supplier aid the
company in procuring
goods & services
which is tough to
acquire from anywhere
else (Tchokogué, and
Merminod, 2021).
Therefore, they
provide such raw
materials that is
critical to the success
of goods and services
firm provides. So for
this reason, this
relationship between
supplier and business
entity is said to be
Preferred supplier are
pre assessed or agreed
suppliers from which
company will use to
purchase various raw
materials, goods or
services. Hence, this
will support and help
the organization to
achieve their goals &
objectives for its
growth and success.
In this relationship
between supplier and
company is seen in
context of, credibility.
Hence, showing the
relation between
period taken to pay the
suppliers and the time
it takes to get pay back
by their buyers. This in
term showing the cash
cycle position of
company, starting
from placing order &
ending with receive of
payment for such
transaction.

tricky.
Terms and conditions In this category of
supplier chain it
includes no terms and
conditions by
company. Moreover,
supplier is providing
special resources
which becomes tough
to find with any other
supplier.
Company can impose
terms & conditions in
a vast term. Moreover,
these are selected by
the company itself so
buyer consists with
large negotiation terms
in terms of comparison
with strategic supplier.
Terms and conditions
imposed by the
company in this
situation is seems to be
less. Organization's get
many options for
selecting supplier as
the distributors present
in the country are in
vast numbers.
Risk There exist the highest
risk as there present
very few suppliers
those who supply such
resources. Scarcity of
equipments makes this
category riskier one.
Risk factor present in
this is moderate
because company is
choosing their supplier
itself. So, they know
which one is suitable
for them & will fulfil
the demand of them.
Transactional supplier
consist with relatively
less risk. Moreover,
company gets
numerous alternatives
to choose their
supplier. Hence, as the
vendor is chosen after
researches so the
chances of risk also
reduces with this.
Negotiation No negotiation can be
done in this chain.
Exist high chances of
negotiation.
Comparatively, fewer
chances of negotiation
exists.
2) Comparing advantages of single sourcing and multiple sourcing in context to procurement.
Single sourcing strategy commits to purchase of goods and services from just one
supplier & if supplier are reliable than they will offer various advantages to business. On other
hand, multiple sourcing is an outsourcing approach in which goods and services are procured

from number of suppliers. Hence, various advantages that is used to compare single and multiple
sourcing with regard to procurement are as follows:
Single sourcing Multiple sources
Building relationship with one source of
supplier is easier and will help the company in
forging trust along with sharing benefits. Due
to this, the chances of getting confidential
information leaked is also protected.
Contacting with more than one source for
supplying products and services will provide
safety if one supplier runs into difficulties (Di
Pasquale, V., Nenni and Riemma, 2020).
Therefore, provides flexibility to the company
to cope up with unexpected events.
Company will also get a benefit of cost
reduction due to economy of scale, if they will
remain focused and retained on one supplier
only.
In this, firm will not be able to attain the
economy of scale benefit. But, will help
organization in meeting their peak demands on
time.
Integration of system like combining all the
physical and virtual components of a firm
becomes easier with a single supplier.
Competition between various suppliers
provides a buyer with more bargaining power
during integration of system.
3) Description of cross sourcing with example and how it benefits the buyer.
This is a sourcing system where an organization uses single supplier for one particular
part of product or services & also makes a contract with other supplier who also possess with
same capability for different parts of goods (Cross sourcing a sourcing strategy in which a
company, 2021). However, company carry on such strategy so that suppliers can acts as a backup
of each other. For example, car manufacturing company made request with one of its supplier to
provide tyres, and asked another distributor to render nuts & bolts for the same.
Benefits of cross sourcing:
 Minimizes language and time horizon barrier: As cross sourcing is done within the
boundaries of country, it helps the buyer i.e., companies, business, partnership firm, etc.
to procure goods and services timely by not depending on only one supplier (Andersen,
Ellegaard and Kragh, 2020). Furthermore, transaction made within the country also
reduces language barrier during trading of products and services.

 Stability of resources: Cross sourcing helps company in maintaining the stability of
resource as they don't depend on single supplier to supply all the parts, and besides this it
provides various options to firms for diversifying their supplier chain. Hence, by this
organization will never remain out of stock in terms of raw materials.
 Advantage of competitive cost structure: Through this type of sourcing system, buyers
will get benefit of competitive cost structure with different suppliers for each part of its
products. Therefore, through this firm would get a more bargaining power which
ultimately lead to cost reduction by selecting the supplier which suits as per their needs.
CONCLUSION
From the following project report it has been enumerated that, company must carry on capital
investment appraisal because at the time of introducing new product or bringing any equipment,
organization's fund, resources, etc. are involved. So to make project profitable without wasting
any of the above mentioned sources, it becomes important for firm to analyse its feasibility.
Apart from this, project will include about capital budgeting methods like net present value, pay
back and IRR which guided the company to continue with this following project because result
derived from these are appropriate & viable. Further, this report has looked into the availability
of long term finance like bank loan and equity issue amongst which firm can choose any option
for the purpose of financing a project. After this, business report has also guided the firm
regarding break even analysis and different types of supplier that firm can refer for further
process.

REFERENCES
Books and journals-
Andersen, P. H., Ellegaard, C. and Kragh, H., 2020. How purchasing departments facilitate
organizational ambidexterity. Production Planning & Control. pp.1-16.
Arnold, G. and Lewis, D.S., 2019. Corporate financial management. Pearson UK.
Bateman, I. J. and Mace, G. M., 2020. The natural capital framework for sustainably efficient
and equitable decision making. Nature Sustainability. 3(10). pp.776-783.
Baum, A.E., Crosby, N. and Devaney, S., 2021. Property investment appraisal. John Wiley &
Sons.
Di Pasquale, V., Nenni, M. E. and Riemma, S., 2020. Order allocation in purchasing
management: a review of state-of-the-art studies from a supply chain perspective.
International Journal of Production Research. 58(15). pp.4741-4766.
Hansen, D. R., Mowen, M. M. and Heitger, D. L., 2021. Cost management. Cengage Learning.
Huels, B. and Weber, J., 2021. Swimming with the sharks: An activity exploring cost, volume
and profit analysis through the use of Shark Tank. Journal of Education for Business.
96(1). pp.52-59.
Jiang, X., Shen, J. H. and Lee, C. C., 2021. Toward an empirical investigation of the long-term
debt and financing deficit nexus: evidence from Chinese-listed firms. Applied Economics.
pp.1-23.
Nicolas, T., 2021. Andersen, P. H., Ellegaard, C. and Kragh, H., 2020. How purchasing
departments facilitate organizational ambidexterity. Production Planning & Control. pp.1-
16.Short-term financial constraints and SMEs’ investment decision: evidence from the
working capital channel. Small Business Economics. pp.1-30.
Tchokogué, A. and Merminod, N., 2021. The purchasing department's leadership role in
developing and maintaining a preferred customer status. Journal of Purchasing and Supply
Management. 27(2). p.100686.
Visconti, M. and Weis, 2020. The valuation of digital intangibles. Springer International
Publishing.
Xu, J., Yu, L. and Gupta, R., 2020. Evaluating the performance of the government venture
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Sustainability. 12(17). p.6908.
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