Business Decision Making

This report discusses the techniques of financial analysis and decision making in business. It includes the calculation of payback period and net present value (NPV) for two projects. The advantages and disadvantages of these techniques are also analyzed. The report concludes with practical implications and recommendations for investment decisions.

BUSINESS DECISION
MAKING
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Contents
INTRODUCTION...........................................................................................................................3
MAIN BODY...................................................................................................................................3
1. Calculation of payback period in project A & B:...............................................................3
2. Calculation of NPV:...........................................................................................................4
3. Analysis:.............................................................................................................................5
4. Practical implications:........................................................................................................7
CONCLUSION................................................................................................................................7
REFERENCES................................................................................................................................8
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INTRODUCTION
It is essential for companies to take crucial decisions regards to investment so that higher return
can be achieved. In order to do effective analysis of financial projects, there are different types of
techniques such as net present value, internal rate of return and many more (WEBSTER, 2014).
The project report is based on ABC plc that is a computer software company and they are
planning to invest in two new projects. In the report, both projects have been analysed by help of
different techniques and critical analysis of these techniques is also done.
MAIN BODY
1. Calculation of payback period in project A & B:
For project A:
Year Cash flow Cumulative cash flow
0 (40000) -
1 8000 8000
2 12000 20000
3 16000 36000
4 20000 56000
5 30000 86000
Payback period= 3+4000/20000*12 months
= 3 years + 2.4 months
So cost of this project’s cost will be recovered in 3 years and 2 months
For project B:
Year Cash flow Cumulative cash flow
0 (60000) -
1 10000 10000
2 20000 30000
3 25000 55000
4 30000 85000
5 40000 125000
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Payback period= 3 + 5000/30000*12 months
= 3 + 2 months
So cost of this project’s cost will be recovered in 3 years and 2 months
On the basis of above calculation of payback period, company should choose project B as its
time period is lower.
2. Calculation of NPV:
Project A:
NPV= Discounted cash flow – initial investment
Year Cash
flow PV
FACTOR DCF
0 -40000 1 -40000
1 8000 0.893 7144
2 12000 0.797 9564
3 16000 0.712 11392
4 20000 0.635 12700
5 30000 0.567 17010
17810
So, the NPV of project A is of 17810 pounds.
Project B:
Year Cash
flow PV
FACTOR DCF
0 -60000 1 -60000
1 10000 0.893 8930
2 20000 0.797 15940
3 25000 0.712 17800
4 30000 0.635 19050
5 40000 0.567 22680
24400
So, the NPV of project B is of 24400 pounds.
On the basis of above calculated NPV of both projects, company should choose project B. This is
so because its present value is higher.
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3. Analysis:
Payback period- It is a type of technique that is related to computing estimated time that can
occur in process of recovering cost of debt (Dumitru-Alexandru, 2016). This technique has
below mentioned advantages and disadvantages such as:
Advantages:
 For managers inside the organization, this technique is simple to use it and easily
understandable. Since they require less data and are comparatively easier to measure the
real annual cash flow for projects.
 The payback technique is highly valuable to markets that are volatile or experience
changes in technology. This ambiguity makes it difficult to forecast possible annual cash
inflow and sometimes leads to incorrect results. In this aspect, payback period method
helps to companies.
Drawbacks:
 No certainty is given that a venture will successfully complete either a shortened payback
period. If the cash flow of the project stops or declines during the repayment duration.
 As well as this technique does not consider all cash flows in evaluation of any project. It
considers value of cash flows till cost of project. After that this does not focus on rest of
cash flows.
Net present value- Generally, the discrepancy between the current value of cash inflows and
outflows is considered the net present value over time. The managers use it primarily to
determine a specific project's profit margin (Eijdenberg, Paas and Masurel, 2017). Growing
project having a positive NPV must be undertaken by the business, which will give the
respective positive results.
Advantages:
 The NPV method allows corporations to take decisions. It not only assesses projects
with the same size, but enables to determine whether a specific investment is
profitable or profitable.
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 The main benefit of using NPV is that the principle of time value for money is taken
into account.
Drawbacks:
 The complete NPV calculation is based on reducing future profits by using the required
rates of return to its present value. There are, nevertheless, no recommendations on this
rate assessment.
 The disadvantage of NPV is that ventures of various sizes cannot be compared. NPV is a
percentage, not an actual number (Ferguson, 2014). The NPV of bigger projects would
therefore necessarily be larger than a small project.
Financial and non-financial factors:
Financial factor-
 Profit- This is a key element of financial factor which is related to difference between
cost and revenues. It is goal of all business entities to gain higher profit so that invested
cost can be covered.
 Interest rates- It is a type of rate on which financial entities give financial assistance to
needed parties. In the success of companies, this rate plays a crucial role because if this
rate will be lower than it will be easier for businesses to acquire funds at lower cost.
Non-financial factor-
 Political factor- This is related to different kinds of legislations and regulations which are
set by government of a nation. Companies can be affected due to this if there is instability
in political condition (Gal, Stewart and Hanne, 2013).
 Technological factor- It is linked to a factor that is related to changes in technological
aspects. Due to changes, this becomes essential for companies to adopt new changes.
4. Practical implications:
In the above part of report, analysis of project A and B has been under NPV and payback
period method. Under payback period, the value of both project is almost similar. Such as
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project A’s cost will be recovered in 2 years and 2.4 month and project B’s cost in 2
years and 2 months. While under NPV method, project A’s present value is of 17810 and
project B’s is of 24400. This is indicating that ABC limited company should go with
project B.
CONCLUSION
On the basis of above project report, this can be concluded that companies should take
financial decision by making proper evaluation under different techniques. In accordance of
analysis of NPV and payback period, this can be articulated that company should make
invest in project B.
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REFERENCES
Books and journal:
WEBSTER, A., 2014. Financial decision making under uncertainty. Academic Press.
Dumitru-Alexandru, B., 2016. Business Intelligence for decision making in economics.
In Artificial Intelligence in Financial Markets (pp. 125-158). Palgrave Macmillan,
London.
Eijdenberg, E .L., Paas, L. J. and Masurel, E., 2017. Decision-making and small business growth
in Burundi. Journal of Entrepreneurship in Emerging Economies.
Gal, T., Stewart, T. and Hanne, T. eds., 2013. Multicriteria decision making: advances in
MCDM models, algorithms, theory, and applications (Vol. 21). Springer Science &
Business Media.
Ferguson, J .L., 2014. Excessive risk exposure: A question of ethical decision-making. Journal
of Business Research. 67(1). pp.2684-2685.
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