Financial Accounting: Capital Budgeting Methods and Analysis Techniques

In this assignment we will discuss about financial accounting and below are the summaries point:- The investment strategy rule consists of projected life, discounting factor, and cash flow. Sensitivity analysis and scenario analysis are important in capital budgeting. Sensitivity analysis involves approximating cash flows based on market proportions and sales.

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Financial Accounting
Name of the Student:
Name of the University:
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Table of Contents
Answer to Question 1.................................................................................................................3
Introduction................................................................................................................................3
Discussion..................................................................................................................................3
Sensitivity Analysis................................................................................................................3
Merits:................................................................................................................................4
Demerits.............................................................................................................................5
Scenario Analysis...................................................................................................................5
Conclusion..................................................................................................................................6
Answer to question 2..................................................................................................................7
Reference....................................................................................................................................9

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Answer to Question 1
Introduction
The situation decides the investment strategy rule. The rule of decision is basically
consists of three factors projected life, discounting factor as well as cash flow. The
assessment of the three factor impacts the guidelines of the decision. Valuation of cash flows
include vast understanding of the plan previously it is practical in mostly macro and micro
view of the economy, administration also the business. Project life is suitably important, then
it would adapt the entire insight of the plan. So excessive preservation is compulsory to be
experimental for resembling the project life. The discounting factor is measured for cost of
capital that has knowledgeable alteration over the years. Cost of capital has unlike
insinuations in different monetary values.
Discussion
As there prevails numerous Capital budgeting methods grounded on conviction as
well as ambiguity. These methods hard work to conglomerate risk but then again utmost
significant insufficiencies are that specifying the appropriate grade of danger aimed at a
project plan is pretentious through considerate occupied problems and they cannot be applied
to abundant growths in surplus of period. The essay mostly emphases on Sensitivity Analysis
and Scenario Analysis in Capital Budgeting procedure (Hasan 2013).
Sensitivity Analysis
At the period of evaluating every plan of capital budgeting plan present is a condition
of approximating the cash flows. This approximation be situated originated on the predictable
charge along with sales. The capacity of transactions is determined by on the market
proportions together with the market segment of the firm. The computation of NPV and IRR

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of a plan are determined through measuring the cash flows that are calculated after taxis
being less from the amount available. This is decided by merging the dissimilar variables of
projected cash flow, life of the project and the discounted rate. The presentation of the
variables are significant indeterminate. The sensitivity analysis provisions in distinguishing in
what way subtle the numerous assessed variables of the plan be there. It demonstrates in what
way delicate is a scheme`s Net Present Value or Internal Rate of Return for a stated change in
exact variables. The additional sensitive the Net Present Value, the additional thoughtful is
the variables. Stages that are elaborate in the sensitivity analysis are:-
 Distinguish the variables that could disturb the project’s Net Present Value or
Internal Rate of Return.
 Evaluate the effect of the modification in collaboration of the variables on the
scheme’s Net Present Value or Internal Rate of Return.
 Designate the important suggestion among the variables.
The Plan’s either Net Present Value or Internal Rate of Return can be intended below
succeeding three prospects in sensitivity analysis.
a. Undesirable that is the most awful
b. Expectable that is the most credible
c. Optimistic that is the premium 9 (Hasan 2013).
Merits:
 It compels the statement producer to identify the variables affecting the cash flow
estimation that helps in accepting the venture plan in completely.
 It identifies the unsafe variables for that uncommon actions can be occupied.
It directs the assumption manufacturer to careful on valid variables for the plan.

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Demerits
 The collection of values suggested by the technique may not be dependable. The
relations ‘optimistic and ‘Undesirable` might perhaps mean not the similar effects to
unlike individuals.
 It be unsuccessful to stress on the interrelationship between variables. The evaluation
of inconsistency of one piece at a phase, possession added variables unceasing may
not had ample judgement.
For illustration, auctions volume may be associated to value and amount. One cannot
examine the outcome of alteration in value keeping volume unceasing (Andor Mohanty
and Toth 2015).
Scenario Analysis
In sensitivity analysis, characteristically particular variable is diverse at a time. If
variables are associated, as they are farthest credible toward be, it is supportive to gaze by
convinced sensible situations, each situation on behalf of a reliable combination of variables.
The steps explained in scenario analysis are as given beneath:
 Excellent the feature altogether over the place wherever situations would be made.
The feature particularly basically be the main substance of improbableness for the
attainment of the project. It may be the complaint of the economy, interest rate or
mechanical development or answer of the market.
 Estimation of the standards of all of the variables in asset scrutiny such as asset
expenditure, earnings, amounts, and life of the project for each situation.
 Analyse the Net Present Value and Internal Rate of Return underneath every scenario.
For example if a corporation chooses to present a new project it would like to assess the
project.

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Exposed going on the answer of the market - the feature that is the major basis of uncertainty
for the achievement of the project - the government of the firm has acknowledged three
situations:
The manufactured goods –
 Would have a sensible demand to clienteles over and done with the panel at an
uncertain price.
 Would strongly demand to a great segment of the market place that is enormously
control-sensitive.
 Would demand to an unimportant section of the market, they would be excited to
compensate a great value (Ahmed 2013).
Conclusion
In this essay, approaches of capital budgeting beneath the report of certainty as well
as uncertainty had been discussed, highlighting their proportional metiers along with
demerits. The asset special made by directors would adjust a number of considerable
materials like the cash flows formed by the corporation, the expenditures compensated out by
the commercial, the market value of the company, the presence of the company etc. Many
managers talk about the gut feel, or higher expertise, that certificates them to roughly a plan
must be presumed horizontal however it category out not to give the impression to have an
optimistic Net Present Value. It is stimulating to count their value, so the gut feel technique is
normal just to “assessment” that the project is profitable and previously to go onward with it.
In part, the practise of capital budgeting techniques license for plentiful experienced choices
by incomes of the care that their proposal makes developing more stimulating in a stage of
immediate technical and financial alteration.

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Answer to question 2
Year 0 1 2 3 4 5
Discount Factor 10%
Cash flow -71,50,000.00$ 12,50,000.00$ 16,25,000.00$ 19,19,000.00$ 21,81,500.00$ 29,07,750.00$
Pv Factor 1 0.909090909 0.826446281 0.751314801 0.683013455 0.620921323
Discounted Cash Flow -71,50,000.00$ 11,36,363.64$ 13,42,975.21$ 14,41,773.10$ 14,89,993.85$ 18,05,483.98$
NPV 66,589.78$
Berry Mount manufactures
Computation of Net Present Value
Year 0 1 2 3 4 5
Discounting Factor 10%
Cash flow -71,50,000.00$ 12,50,000.00$ 16,25,000.00$ 19,19,000.00$ 21,81,500.00$ 29,07,750.00$
PV Factor 1 0.909090909 0.826446281 0.751314801 0.683013455 0.620921323
Discounted Cash flow -71,50,000.00$ 11,36,363.64$ 13,42,975.21$ 14,41,773.10$ 14,89,993.85$ 18,05,483.98$
IRR 10.32%
Berry Mount manufactures
Computation of Internal Rate of Return
Year Cash Flows D.F@10% Disc Cash FlowsCumulative Cash Flows
0 71,50,000.00$
1 12,50,000.00$ 0.909 11,36,250.00$ 13,63,500.00$
2 16,25,000.00$ 0.826 13,42,250.00$ 27,05,750.00$
3 19,19,000.00$ 0.751 14,41,169.00$ 41,46,919.00$
4 21,81,500.00$ 0.683 14,89,964.50$ 56,36,883.50$
5 29,07,750.00$ 0.621 18,05,712.75$ 74,42,596.25$
PI 1.04
Berry Mount manufactures
Computation of Profitability Index
Year Cash Flow D.F@10% Disc Cash Flows Cumulative Cash Flows
1 12,50,000.00$ 0.909 11,36,250.00$ 13,63,500.00$
2 16,25,000.00$ 0.826 13,42,250.00$ 27,05,750.00$
3 19,19,000.00$ 0.751 14,41,169.00$ 41,46,919.00$
4 21,81,500.00$ 0.683 14,89,964.50$ 56,36,883.50$
5 29,07,750.00$ 0.621 18,05,712.75$ 74,42,596.25$
Initial Investment 71,50,000.00$
Disc Payback Period: 4.84
Berry Mount manufactures
Computation of Discounted Payback Period

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Year Cash Flow Cumulative Cash Flows
1 12,50,000.00$ 15,00,000.00$
2 16,25,000.00$ 31,25,000.00$
3 19,19,000.00$ 50,44,000.00$
4 21,81,500.00$ 72,25,500.00$
5 29,07,750.00$ 1,01,33,250.00$
Initial Investment 71,50,000.00$
Payback Period (years): 3.97
Computation of Payback Period
Berry Mount manufactures

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Reference
Ahmed, I.E., 2013. Factors determining the selection of capital budgeting
techniques. Journal of Finance and Investment Analysis, 2(2), pp.77-88.
Andor, G., Mohanty, S.K. and Toth, T., 2015. Capital budgeting practices: A survey of
Central and Eastern European firms. Emerging Markets Review, 23, pp.148-172.
Hasan, M., 2013. Capital budgeting techniques used by small manufacturing
companies. Journal of Service Science and Management, 6(01), p.38.
Rossi, M., 2014. Capital budgeting in Europe: confronting theory with practice. International
Journal of Managerial and Financial Accounting, 6(4), pp.341-356.
Turner, M.J. and Guilding, C., 2013. Capital budgeting implications arising from locus of
hotel owner/operator power. International Journal of Hospitality Management, 35, pp.261-
273.