Financial Ratio Analysis and Investment Appraisal: A Case Study of Gambling Companies in the UK
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AI Summary
This report analyzes the financial performance of three major gambling companies in the UK: William Hill, Ladbrokes, and Paddy Power. Using financial ratios, the report compares their profitability, liquidity, and operational efficiency over a three-year period. The analysis identifies Paddy Power as the best-performing company, highlighting its strong profitability, liquidity, and asset utilization. Ladbrokes, on the other hand, is identified as the poorest performer, with weaknesses in profitability, liquidity, and operational efficiency. The report also explores the key stages involved in capital investment decision-making and examines various investment appraisal methods, including Net Present Value (NPV), Discounted Cash Flow (DCF), and Payback Period. The report concludes by providing recommendations for Ladbrokes to improve its financial performance.
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ACCOUNTING AND FINANCE FOR MANAGERS
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Table of contents
Section A..................................................................................................................................... 3
1.a Financial ratio analysis...........................................................................................................3
1.b Identifying the best performing company.............................................................................11
1.c Identifying the poor performing company.............................................................................11
Section B................................................................................................................................... 12
2.a Identifying and explaining the key stages in the capital investment decision making process
.................................................................................................................................................. 12
2.b Identifying and explaining the key methods of investment appraisal....................................14
Reference list............................................................................................................................. 17
Section A..................................................................................................................................... 3
1.a Financial ratio analysis...........................................................................................................3
1.b Identifying the best performing company.............................................................................11
1.c Identifying the poor performing company.............................................................................11
Section B................................................................................................................................... 12
2.a Identifying and explaining the key stages in the capital investment decision making process
.................................................................................................................................................. 12
2.b Identifying and explaining the key methods of investment appraisal....................................14
Reference list............................................................................................................................. 17
Section A
1.a Financial ratio analysis
Financial ratios can be considered as one of the best performance indicators of the companies.
Considering the growth scenario of the Gambling industry in the United Kingdom, it can be
stated that analyzing the financial performances of the companies is very important. Here, the
performances of the three Gambling companies in UK have been analyzed using the financial
ratios:
Financial ratios of William Hill:
Financial ratios 2016 2015 2014
Profitability ratios:
Gross profit margin 81.74 85.27 88.57
EBIT margin 13.72 14.01 17.41
ROE using the net income 13.42 15.62 17.78
Liquidity ratios:
Current ratio 0.71 0.52 0.76
Quick ratios 0.71 0.52 0.76
Operational ratios:
Net assets turnover 0.80 0.95 0.81
Interest cover 4.51 5.47 5.76
Collection period (days) 5 1 2
Credit period (days) 29 24 24
Gearing ratio:
Gearing 65.86 63.07 73.30
(Source: Sports.williamhill.com 2018)
Financial ratios of Ladbrokes:
1.a Financial ratio analysis
Financial ratios can be considered as one of the best performance indicators of the companies.
Considering the growth scenario of the Gambling industry in the United Kingdom, it can be
stated that analyzing the financial performances of the companies is very important. Here, the
performances of the three Gambling companies in UK have been analyzed using the financial
ratios:
Financial ratios of William Hill:
Financial ratios 2016 2015 2014
Profitability ratios:
Gross profit margin 81.74 85.27 88.57
EBIT margin 13.72 14.01 17.41
ROE using the net income 13.42 15.62 17.78
Liquidity ratios:
Current ratio 0.71 0.52 0.76
Quick ratios 0.71 0.52 0.76
Operational ratios:
Net assets turnover 0.80 0.95 0.81
Interest cover 4.51 5.47 5.76
Collection period (days) 5 1 2
Credit period (days) 29 24 24
Gearing ratio:
Gearing 65.86 63.07 73.30
(Source: Sports.williamhill.com 2018)
Financial ratios of Ladbrokes:
Financial ratios 2016 2015 2014
Profitability ratios:
Gross profit margin -14.15 -3.60 3.21
EBIT margin -0.50 -0.19 6.72
ROE using the net income -14.24 1.12 10.47
Liquidity ratios:
Current ratio 0.33 0.65 0.59
Quick ratios 0.33 0.65 0.59
Operational ratios:
Net assets turnover 0.62 1.36 1.25
Interest cover -0.19 -0.08 2.76
Collection period (days) 1 2 2
Credit period (days) 25 15 16
Gearing ratio:
Gearing 96.75 93.19 140.90
(Source: Ladbrokes.com 2018)
Financial ratios of Paddy Power:
Financial ratios 2016 2015 2014
Profitability ratios:
Gross profit margin 76.91 75.92 80.97
EBIT margin 0.88 15.54 18.42
ROE using the net income -0.13 212.57 37.45
Liquidity ratios:
Current ratio 0.99 0.82 1.34
Quick ratios 0.99 0.82 1.34
Operational ratios:
Net assets turnover 0.33 3.94 2.22
Profitability ratios:
Gross profit margin -14.15 -3.60 3.21
EBIT margin -0.50 -0.19 6.72
ROE using the net income -14.24 1.12 10.47
Liquidity ratios:
Current ratio 0.33 0.65 0.59
Quick ratios 0.33 0.65 0.59
Operational ratios:
Net assets turnover 0.62 1.36 1.25
Interest cover -0.19 -0.08 2.76
Collection period (days) 1 2 2
Credit period (days) 25 15 16
Gearing ratio:
Gearing 96.75 93.19 140.90
(Source: Ladbrokes.com 2018)
Financial ratios of Paddy Power:
Financial ratios 2016 2015 2014
Profitability ratios:
Gross profit margin 76.91 75.92 80.97
EBIT margin 0.88 15.54 18.42
ROE using the net income -0.13 212.57 37.45
Liquidity ratios:
Current ratio 0.99 0.82 1.34
Quick ratios 0.99 0.82 1.34
Operational ratios:
Net assets turnover 0.33 3.94 2.22
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Interest cover 2.64 61.70 978.34
Collection period (days) 2 2 2
Credit period (days) 2 5 5
Gearing ratio:
Gearing 7.02 296.46 2.66
(Source: Paddypower.com 2018)
The above three tables are indicating the financial performance standards of the three gambling
companies in UK in the last three years. The comparison among the financial performances of
these three companies is done below:
Profitability comparison:
Gross profit comparison
2016 2015 2014
-20
0
20
40
60
80
100
81.74 85.27 88.57
-14.15
-3.6
3.21
76.91 75.92 80.97
William Hill
Ladbrokes
Paddy Power
EBIT margin comparison:
Collection period (days) 2 2 2
Credit period (days) 2 5 5
Gearing ratio:
Gearing 7.02 296.46 2.66
(Source: Paddypower.com 2018)
The above three tables are indicating the financial performance standards of the three gambling
companies in UK in the last three years. The comparison among the financial performances of
these three companies is done below:
Profitability comparison:
Gross profit comparison
2016 2015 2014
-20
0
20
40
60
80
100
81.74 85.27 88.57
-14.15
-3.6
3.21
76.91 75.92 80.97
William Hill
Ladbrokes
Paddy Power
EBIT margin comparison:
2016 2015 2014
-5
0
5
10
15
20
13.72 14.01
17.41
0.88
15.54
18.42
William Hill
Ladbrokes
Paddy Power
ROE comparison:
2016 2015 2014
-50
0
50
100
150
200
250
13.42 15.62 17.78
-14.24
1.12 10.47
-0.13
212.57
37.45
William Hill
Ladbrokes
Paddy Power
The above graphs are showing that the profitability performances of Paddy Power and William
Hill during the three years’ period were more or less similar. However, in this context, it must be
noted that the profitability of these three companies has decreased gradually from 2014 to 2016.
The performance of Ladbrokes was very poor during these years. At the same time, it is also
true that the performance of Paddy Power was bit fluctuating during the same time span. The
profitability performances of the three companies are clearly indicating that the cost levels of the
companies have enhanced, which need to be controlled as soon as possible.
Liquidity comparison:
-5
0
5
10
15
20
13.72 14.01
17.41
0.88
15.54
18.42
William Hill
Ladbrokes
Paddy Power
ROE comparison:
2016 2015 2014
-50
0
50
100
150
200
250
13.42 15.62 17.78
-14.24
1.12 10.47
-0.13
212.57
37.45
William Hill
Ladbrokes
Paddy Power
The above graphs are showing that the profitability performances of Paddy Power and William
Hill during the three years’ period were more or less similar. However, in this context, it must be
noted that the profitability of these three companies has decreased gradually from 2014 to 2016.
The performance of Ladbrokes was very poor during these years. At the same time, it is also
true that the performance of Paddy Power was bit fluctuating during the same time span. The
profitability performances of the three companies are clearly indicating that the cost levels of the
companies have enhanced, which need to be controlled as soon as possible.
Liquidity comparison:
Current ratio comparison:
2016 2015 2014
0
0.2
0.4
0.6
0.8
1
1.2
1.4
0.71
0.52
0.76
0.33
0.65 0.59
0.99
0.82
1.34
William Hill
Ladbrokes
Paddy Power
Quick ratio comparison:
2016 2015 2014
0
0.2
0.4
0.6
0.8
1
1.2
1.4
0.71
0.52
0.76
0.33
0.65 0.59
0.99
0.82
1.34
William Hill
Ladbrokes
Paddy Power
Comparing the liquidity ratios of the three companies for three years, it can be stated that the
performance of Paddy Power was better than the other two companies. In this context, it must
be noted that the performances of the three companies were not that strong in the liquidity
context. The current assets positions of the three companies were not up to the standard.
Moreover, the performances of the companies have gradually decreased. Fluctuations were
high in the performance of Ladbrokes. However, the liquidity positions of the other two
2016 2015 2014
0
0.2
0.4
0.6
0.8
1
1.2
1.4
0.71
0.52
0.76
0.33
0.65 0.59
0.99
0.82
1.34
William Hill
Ladbrokes
Paddy Power
Quick ratio comparison:
2016 2015 2014
0
0.2
0.4
0.6
0.8
1
1.2
1.4
0.71
0.52
0.76
0.33
0.65 0.59
0.99
0.82
1.34
William Hill
Ladbrokes
Paddy Power
Comparing the liquidity ratios of the three companies for three years, it can be stated that the
performance of Paddy Power was better than the other two companies. In this context, it must
be noted that the performances of the three companies were not that strong in the liquidity
context. The current assets positions of the three companies were not up to the standard.
Moreover, the performances of the companies have gradually decreased. Fluctuations were
high in the performance of Ladbrokes. However, the liquidity positions of the other two
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companies were also fluctuating. It means in the coming years the companies need to enhance
their short term assets to improve the situation.
Comparing the operational ratios:
Net assets turnover comparison:
2016 2015 2014
0
0.5
1
1.5
2
2.5
3
3.5
4
0.8 0.95 0.81
0.62
1.36 1.25
0.33
3.94
2.22
William Hill
Ladbrokes
Paddy Power
Interest coverage comparison:
2016 2015 2014
-200
0
200
400
600
800
1000
4.51 5.47 5.76
-0.19 -0.08
2.762.64 61.7
978.34
William Hill
Ladbrokes
Paddy Power
Collection period comparison:
their short term assets to improve the situation.
Comparing the operational ratios:
Net assets turnover comparison:
2016 2015 2014
0
0.5
1
1.5
2
2.5
3
3.5
4
0.8 0.95 0.81
0.62
1.36 1.25
0.33
3.94
2.22
William Hill
Ladbrokes
Paddy Power
Interest coverage comparison:
2016 2015 2014
-200
0
200
400
600
800
1000
4.51 5.47 5.76
-0.19 -0.08
2.762.64 61.7
978.34
William Hill
Ladbrokes
Paddy Power
Collection period comparison:
2016 2015 2014
0
0.5
1
1.5
2
2.5
3
3.5
4
4.5
5
5
1
2
1
2 22 2 2
William Hill
Ladbrokes
Paddy Power
Credit period comparison
2016 2015 2014
0
5
10
15
20
25
30
29
24 2425
15 16
2
5 5
William Hill
Ladbrokes
Paddy Power
If the operational ratios of the three companies are compared, it can be identified that in the
case of net assets turnover ratios and interest coverage ratios, the performance of Paddy Power
was better than the other two companies. Though the performances of the three companies
were in decreasing trend, it must be stated that the performance of Paddy Power decreased by
higher ratio than the other two companies. On the other hand, if the other two ratios are
considered, it can be stated that the debtor collection period is high in William Hill, which means
that the company takes much time to recover its debt. Moreover, as the debtors’ collection
period of the company has gradually increased, it can be stated that the operations of the
company were not up to the standard. In this context, it must also be noted that the credit period
0
0.5
1
1.5
2
2.5
3
3.5
4
4.5
5
5
1
2
1
2 22 2 2
William Hill
Ladbrokes
Paddy Power
Credit period comparison
2016 2015 2014
0
5
10
15
20
25
30
29
24 2425
15 16
2
5 5
William Hill
Ladbrokes
Paddy Power
If the operational ratios of the three companies are compared, it can be identified that in the
case of net assets turnover ratios and interest coverage ratios, the performance of Paddy Power
was better than the other two companies. Though the performances of the three companies
were in decreasing trend, it must be stated that the performance of Paddy Power decreased by
higher ratio than the other two companies. On the other hand, if the other two ratios are
considered, it can be stated that the debtor collection period is high in William Hill, which means
that the company takes much time to recover its debt. Moreover, as the debtors’ collection
period of the company has gradually increased, it can be stated that the operations of the
company were not up to the standard. In this context, it must also be noted that the credit period
allowed to William Hill was also higher than the other two companies. It has helped the
company adjusting the situation. Comparing the performance of Ladbrokes with that of William
Hill, it can be stated that Ladbrokes was almost at the same position like, William Hill. At the
same time, it can also be noticed that the balance between the collection period and credit
period was less in the case of Paddy Power.
Gearing comparison:
2016 2015 2014
0
50
100
150
200
250
300
65.86 63.07 73.3
96.75 93.19
140.9
7.02
296.46
2.66
William Hill
Ladbrokes
Paddy Power
The above table is showing that the gearing ratios of the three companies were bit fluctuating
during these three years. The fluctuation was more in Paddy Power. In 2014 and 2016, the
company used minimum debt capital, but in 2015, the debt capital used by the company was
200% higher than the other two years. The fluctuation level was low in the cases of Ladbrokes
and William Hill. However, it must be stated that the Ladbrokes used more debt capital than the
equity capital in comparison to William Hill. Therefore, comparing the gearing ratios of the three
companies for three years, it can be stated that the gearing position of William Hill was better
than the other two companies because the risk proportion in this company were much balanced
than the other two companies.
Therefore, from the overall comparison, it can be stated that the performances of the three
companies were more or less similar because the financial performances of the three
companies were in decreasing trend and the fluctuations were almost similar. However, it does
not mean that there were no differences between the performances of the companies. Here,
based on the performances of the companies during 2014 to 2016, the highest performing and
lowest performing company has been identified.
company adjusting the situation. Comparing the performance of Ladbrokes with that of William
Hill, it can be stated that Ladbrokes was almost at the same position like, William Hill. At the
same time, it can also be noticed that the balance between the collection period and credit
period was less in the case of Paddy Power.
Gearing comparison:
2016 2015 2014
0
50
100
150
200
250
300
65.86 63.07 73.3
96.75 93.19
140.9
7.02
296.46
2.66
William Hill
Ladbrokes
Paddy Power
The above table is showing that the gearing ratios of the three companies were bit fluctuating
during these three years. The fluctuation was more in Paddy Power. In 2014 and 2016, the
company used minimum debt capital, but in 2015, the debt capital used by the company was
200% higher than the other two years. The fluctuation level was low in the cases of Ladbrokes
and William Hill. However, it must be stated that the Ladbrokes used more debt capital than the
equity capital in comparison to William Hill. Therefore, comparing the gearing ratios of the three
companies for three years, it can be stated that the gearing position of William Hill was better
than the other two companies because the risk proportion in this company were much balanced
than the other two companies.
Therefore, from the overall comparison, it can be stated that the performances of the three
companies were more or less similar because the financial performances of the three
companies were in decreasing trend and the fluctuations were almost similar. However, it does
not mean that there were no differences between the performances of the companies. Here,
based on the performances of the companies during 2014 to 2016, the highest performing and
lowest performing company has been identified.
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1.b Identifying the best performing company
Considering the overall financial performances of the three companies, it can be stated that the
Paddy Power was the best performing or highest performing company among three. As this is
the best performing company, investment opportunities are high in this particular organization.
However, the reasons that made this company as the highest opportunities holder are stated
below:
The gross profit and other profitability ratios of this company were better in this
company. Though the ROE of the company has decreased in the financial year 2016,
the company has the capability of improving the scenario as the other profitability ratios
were at better position. As the profitability position of the company was better than the
other two companies, it can be expected that this company has better opportunity of
generating higher percentage of return in the near future (Talebnia and Aliari Erdi 2018).
Hence, it can be considered as a better investment option.
The liquidity position of the company was also better than the other two companies. The
strong liquidity position of the company has secured its future sustainability. If the future
of a company is secured, it can be expected that in future the company will be able to
maintain its performance standard and survive properly (Riyadi 2017).
The operational level of this company was also better than the other two companies. The
company was able to utilize its assets in a better way, which indicates that the efficiency
level of the company was better. As the efficiency level of the company was better, it can
be expected that in future the company will generate more revenue and return to the
investors (Trumpp and Guenther 2017).
1.c Identifying the poor performing company
In the above discussion, it has been identified that the Paddy power is the best performing
company among the three companies. In this context, it must be noted that Ladbrokes is the
lowest or poorest performing company among these three gambling companies in the United
Kingdom. The profitability position of the company was very poor during these years and at the
same time, the liquidity and efficiency levels of the business was also not satisfactory in
comparison to the other companies in the industry. However, the management of Ladbrokes
can improve the situation if they consider the following recommendations properly:
The management of the company needs to develop better strategies for improving the
profitability scenario by controlling the direct and indirect cost levels. The management
Considering the overall financial performances of the three companies, it can be stated that the
Paddy Power was the best performing or highest performing company among three. As this is
the best performing company, investment opportunities are high in this particular organization.
However, the reasons that made this company as the highest opportunities holder are stated
below:
The gross profit and other profitability ratios of this company were better in this
company. Though the ROE of the company has decreased in the financial year 2016,
the company has the capability of improving the scenario as the other profitability ratios
were at better position. As the profitability position of the company was better than the
other two companies, it can be expected that this company has better opportunity of
generating higher percentage of return in the near future (Talebnia and Aliari Erdi 2018).
Hence, it can be considered as a better investment option.
The liquidity position of the company was also better than the other two companies. The
strong liquidity position of the company has secured its future sustainability. If the future
of a company is secured, it can be expected that in future the company will be able to
maintain its performance standard and survive properly (Riyadi 2017).
The operational level of this company was also better than the other two companies. The
company was able to utilize its assets in a better way, which indicates that the efficiency
level of the company was better. As the efficiency level of the company was better, it can
be expected that in future the company will generate more revenue and return to the
investors (Trumpp and Guenther 2017).
1.c Identifying the poor performing company
In the above discussion, it has been identified that the Paddy power is the best performing
company among the three companies. In this context, it must be noted that Ladbrokes is the
lowest or poorest performing company among these three gambling companies in the United
Kingdom. The profitability position of the company was very poor during these years and at the
same time, the liquidity and efficiency levels of the business was also not satisfactory in
comparison to the other companies in the industry. However, the management of Ladbrokes
can improve the situation if they consider the following recommendations properly:
The management of the company needs to develop better strategies for improving the
profitability scenario by controlling the direct and indirect cost levels. The management
can change the costing method and implement more advanced costing system like,
activity based costing system (Riyadi 2017). This will help to reduce the cost level by
reducing the waste level of the business.
The management of Ladbrokes also needs to improve the efficiency level of the
managers as well as the other employees. This can be done in a better way if the
company introduces some training programs for the managers and the employees
(Talebnia and Aliari Erdi 2018).
The management also needs to improve the position of current assets of the business.
In order to improve the current ratio, the organization needs to enhance the cash inflow
of the business and the level of cash inflow can be enhanced by eliminating
unnecessary cash outflow from the business.
Section B
2.a Identifying and explaining the key stages in the capital investment decision making
process
Capital investment decision-making is a very critical and time consuming process. This
particular process involves some stages, which are as follows:
Stage 1: The first stage in the capital investment decision-making is the identification of
the investment opportunities. In this stage, the managements of the companies need to
explore the new opportunities. For any particular capital investment decision, there might
be more than two opportunities (Li and Trutnevyte 2017). Therefore, the management
needs to identify the better opportunities for the company.
Stage 2: After exploring the new capital investment opportunities, the management
needs to verify or compute the cost of each investment opportunity separately. This is
one of the most important stages in the whole capital investment decision making
process. The company needs to analyze the costs of each opportunity critically
considering the cost of implementation as well as the cost of maintenance (Hicks 2017).
Stage 3: The third stage in the capital investment decision making process is
determining the future cash inflows from each investment opportunity. This is also needs
to be done for each investment opportunity separately. This is a very critical stage in the
capital investment decision making process. In order to identify the future cash flow from
activity based costing system (Riyadi 2017). This will help to reduce the cost level by
reducing the waste level of the business.
The management of Ladbrokes also needs to improve the efficiency level of the
managers as well as the other employees. This can be done in a better way if the
company introduces some training programs for the managers and the employees
(Talebnia and Aliari Erdi 2018).
The management also needs to improve the position of current assets of the business.
In order to improve the current ratio, the organization needs to enhance the cash inflow
of the business and the level of cash inflow can be enhanced by eliminating
unnecessary cash outflow from the business.
Section B
2.a Identifying and explaining the key stages in the capital investment decision making
process
Capital investment decision-making is a very critical and time consuming process. This
particular process involves some stages, which are as follows:
Stage 1: The first stage in the capital investment decision-making is the identification of
the investment opportunities. In this stage, the managements of the companies need to
explore the new opportunities. For any particular capital investment decision, there might
be more than two opportunities (Li and Trutnevyte 2017). Therefore, the management
needs to identify the better opportunities for the company.
Stage 2: After exploring the new capital investment opportunities, the management
needs to verify or compute the cost of each investment opportunity separately. This is
one of the most important stages in the whole capital investment decision making
process. The company needs to analyze the costs of each opportunity critically
considering the cost of implementation as well as the cost of maintenance (Hicks 2017).
Stage 3: The third stage in the capital investment decision making process is
determining the future cash inflows from each investment opportunity. This is also needs
to be done for each investment opportunity separately. This is a very critical stage in the
capital investment decision making process. In order to identify the future cash flow from
the investment opportunities, the management may consider the cash flows from other
similar type of projects that have ben completed previously (Laird and Venables 2017).
Stage 4: The fourth stage is risk analysis. At this stage, the risk proportion that is
associated with each investment opportunity needs to be analyzed following different
methods. This can be done by estimating the future demand for the project or
investment. At the same time, the management also needs to analyze the internal and
external environments of the business to identify and analyze the risk proportion
(Ogunbayo et al. 2018).
Stage 5: The fifth stage is making the final decision for the capital investment. At this
stage, the management needs to make the final decision regarding the capital
investment considering the results of the previous four stages. At this stage the
management selects the investment opportunity that is the most suitable to the company
(Laird and Venables 2017).
In the above mentioned process of investment decision making, the investment appraisal plays
a vital role. With the help of different investment appraisal methods, the managers can
understand or measure the possible returns from the particular investment option. At the same
time, the managers can also understand the number of years that the company will need to get
return back the amount of initial investment (Hicks 2017). It means with the help of investment
appraisal, the companies can better analyze the investment projects or opportunities, which on
the other hand, helps the companies in making accurate or logical capital investment decision
making.
2.b Identifying and explaining the key methods of investment appraisal
There are several methods that the companies may use for investment appraisal. Some of the
methods are discussed below along with the examples:
Net present value method – This is one of the most popular investment appraisal methods that
the companies are using for investment appraisal while making any decision for capital
investment. This method is universally accepted and has several benefits. The major benefit is
that the NPV method considers the profitability factor in each investment opportunity. At the
same time, the NPV method considers the time value of money while analyzing any investment
opportunity, which is very important for making investment decision (Kengatharan and
Clamenthu 2017). The implementation of the NPV method can be better understood with the
help of following example:
similar type of projects that have ben completed previously (Laird and Venables 2017).
Stage 4: The fourth stage is risk analysis. At this stage, the risk proportion that is
associated with each investment opportunity needs to be analyzed following different
methods. This can be done by estimating the future demand for the project or
investment. At the same time, the management also needs to analyze the internal and
external environments of the business to identify and analyze the risk proportion
(Ogunbayo et al. 2018).
Stage 5: The fifth stage is making the final decision for the capital investment. At this
stage, the management needs to make the final decision regarding the capital
investment considering the results of the previous four stages. At this stage the
management selects the investment opportunity that is the most suitable to the company
(Laird and Venables 2017).
In the above mentioned process of investment decision making, the investment appraisal plays
a vital role. With the help of different investment appraisal methods, the managers can
understand or measure the possible returns from the particular investment option. At the same
time, the managers can also understand the number of years that the company will need to get
return back the amount of initial investment (Hicks 2017). It means with the help of investment
appraisal, the companies can better analyze the investment projects or opportunities, which on
the other hand, helps the companies in making accurate or logical capital investment decision
making.
2.b Identifying and explaining the key methods of investment appraisal
There are several methods that the companies may use for investment appraisal. Some of the
methods are discussed below along with the examples:
Net present value method – This is one of the most popular investment appraisal methods that
the companies are using for investment appraisal while making any decision for capital
investment. This method is universally accepted and has several benefits. The major benefit is
that the NPV method considers the profitability factor in each investment opportunity. At the
same time, the NPV method considers the time value of money while analyzing any investment
opportunity, which is very important for making investment decision (Kengatharan and
Clamenthu 2017). The implementation of the NPV method can be better understood with the
help of following example:
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Example: Company A has an investment opportunity, in which it needs to invest $100000. The
cost of capital is 10% and the estimated cash inflows are as follows:
Cash inflow in the year 1 = $30000
Cash inflow in the year 2 = $30000
Cash inflow in the year 3 = $30000
Cash inflow in the year 4 = $30000
Cash inflow in the year 5 = $30000
Cash inflow in the year 6 = $30000
Therefore, the NPV will be as follows:
Initial investment -100000
Cash inflow in the year 1 30000
Cash inflow in the year 2 30000
Cash inflow in the year 3 30000
Cash inflow in the year 4 30000
Cash inflow in the year 5 30000
Cash inflow in the year 6 30000
Cost of capital 10%
Therefore, NPV
$27,870
.75
Discounted cash flow method – This is another widely used capital investment method. In this
method, an investment opportunity is analyzed by identifying the present value of the future
cash inflows. The main advantage is that the discounted cash flow method helps in identifying
the fair value of each investment opportunity (Fokkema et al. 2017). Hence, capital investment
decision making becomes easier for the companies. In order to understand the discounted cash
flow method in a better way, the following example can be considered:
Considering the above example, the DCF is calculated below:
cost of capital is 10% and the estimated cash inflows are as follows:
Cash inflow in the year 1 = $30000
Cash inflow in the year 2 = $30000
Cash inflow in the year 3 = $30000
Cash inflow in the year 4 = $30000
Cash inflow in the year 5 = $30000
Cash inflow in the year 6 = $30000
Therefore, the NPV will be as follows:
Initial investment -100000
Cash inflow in the year 1 30000
Cash inflow in the year 2 30000
Cash inflow in the year 3 30000
Cash inflow in the year 4 30000
Cash inflow in the year 5 30000
Cash inflow in the year 6 30000
Cost of capital 10%
Therefore, NPV
$27,870
.75
Discounted cash flow method – This is another widely used capital investment method. In this
method, an investment opportunity is analyzed by identifying the present value of the future
cash inflows. The main advantage is that the discounted cash flow method helps in identifying
the fair value of each investment opportunity (Fokkema et al. 2017). Hence, capital investment
decision making becomes easier for the companies. In order to understand the discounted cash
flow method in a better way, the following example can be considered:
Considering the above example, the DCF is calculated below:
Years Cash inflows Cost of capital Discounted cash flows
1 30000 1.1 33000
2 30000 1.21 36300
3 30000 1.331 39930
4 30000 1.4641 43923
5 30000 1.61051 48315.3
6 30000 1.771561 53146.83
254615.13
Payback period method – It is one of the simplest investment appraisal techniques that
anyone can easily understand. Using the payback period, the companies can identify the
number of years that the investment will take to return back the initial investment to the
company (Kengatharan and Clamenthu 2017). This method can be better understood by
considering the following example:
Considering the data of the first example, the payback period is calculated here:
Payback period = Initial investment / average cash inflows
= $100000 / $30000
= 3.33 years
1 30000 1.1 33000
2 30000 1.21 36300
3 30000 1.331 39930
4 30000 1.4641 43923
5 30000 1.61051 48315.3
6 30000 1.771561 53146.83
254615.13
Payback period method – It is one of the simplest investment appraisal techniques that
anyone can easily understand. Using the payback period, the companies can identify the
number of years that the investment will take to return back the initial investment to the
company (Kengatharan and Clamenthu 2017). This method can be better understood by
considering the following example:
Considering the data of the first example, the payback period is calculated here:
Payback period = Initial investment / average cash inflows
= $100000 / $30000
= 3.33 years
Reference list
Fokkema, J.E., Buijs, P. and Vis, I.F., 2017. An investment appraisal method to compare LNG-
fueled and conventional vessels. Transportation Research Part D: Transport and
Environment, 56, pp.229-240.
Hicks, C.L., 2017, July. MODERN PROJECT INVESTMENT APPRAISAL: RETURN TO
SIMPLICITY. In Process Optimisation: A Three-Day Symposium Organised by the Midlands
Branch of the Institution of Chemical Engineers and Held at the University of Nottingham, 7–9
April 1987 (No. 61, p. 53). Elsevier.
Kengatharan, L. and Clamenthu, P.D., 2017. Use of Capital Investment Appraisal Practices and
Effectiveness of Investment Decisions: A Study on Listed Manufacturing Companies in Sri
Lanka. Asian Journal of Finance & Accounting, 9(2), pp.287-306.
Ladbrokes.com. 2018. Ladbrokes Online Betting – Sports Betting, Casino, Bingo, Poker &
Games. [online] Available at: http://www.ladbrokes.com/home/en [Accessed 7 Mar. 2018].
Laird, J.J. and Venables, A.J., 2017. Transport investment and economic performance: A
framework for project appraisal. Transport Policy, 56, pp.1-11.
Li, F.G. and Trutnevyte, E., 2017. Investment appraisal of cost-optimal and near-optimal
pathways for the UK electricity sector transition to 2050. Applied energy, 189, pp.89-109.
Ogunbayo, O.T., Odebode, A.A., Oyedele, J.B. and Ayodele, O.T., 2018. The significance of
real estate development process analysis to residential property investment appraisal in Abuja,
Nigeria. International Journal of Construction Management, pp.1-10.
Paddypower.com. 2018. Paddy power Online Betting – Sports Betting, Casino, Bingo, Poker &
Games. [online] Available at: http://www. paddypower.com /home/en [Accessed 7 Mar. 2018].
Riyadi, S., 2017. Financial performance efficiency of Indonesia government banks in improving
profitability. International Journal of Financial Innovation in Banking, 1(3-4), pp.239-252.
Sports.williamhill.com. 2018. [online] Available at: http://sports.williamhill.com/bet/en-gb
[Accessed 7 Mar. 2018].
Fokkema, J.E., Buijs, P. and Vis, I.F., 2017. An investment appraisal method to compare LNG-
fueled and conventional vessels. Transportation Research Part D: Transport and
Environment, 56, pp.229-240.
Hicks, C.L., 2017, July. MODERN PROJECT INVESTMENT APPRAISAL: RETURN TO
SIMPLICITY. In Process Optimisation: A Three-Day Symposium Organised by the Midlands
Branch of the Institution of Chemical Engineers and Held at the University of Nottingham, 7–9
April 1987 (No. 61, p. 53). Elsevier.
Kengatharan, L. and Clamenthu, P.D., 2017. Use of Capital Investment Appraisal Practices and
Effectiveness of Investment Decisions: A Study on Listed Manufacturing Companies in Sri
Lanka. Asian Journal of Finance & Accounting, 9(2), pp.287-306.
Ladbrokes.com. 2018. Ladbrokes Online Betting – Sports Betting, Casino, Bingo, Poker &
Games. [online] Available at: http://www.ladbrokes.com/home/en [Accessed 7 Mar. 2018].
Laird, J.J. and Venables, A.J., 2017. Transport investment and economic performance: A
framework for project appraisal. Transport Policy, 56, pp.1-11.
Li, F.G. and Trutnevyte, E., 2017. Investment appraisal of cost-optimal and near-optimal
pathways for the UK electricity sector transition to 2050. Applied energy, 189, pp.89-109.
Ogunbayo, O.T., Odebode, A.A., Oyedele, J.B. and Ayodele, O.T., 2018. The significance of
real estate development process analysis to residential property investment appraisal in Abuja,
Nigeria. International Journal of Construction Management, pp.1-10.
Paddypower.com. 2018. Paddy power Online Betting – Sports Betting, Casino, Bingo, Poker &
Games. [online] Available at: http://www. paddypower.com /home/en [Accessed 7 Mar. 2018].
Riyadi, S., 2017. Financial performance efficiency of Indonesia government banks in improving
profitability. International Journal of Financial Innovation in Banking, 1(3-4), pp.239-252.
Sports.williamhill.com. 2018. [online] Available at: http://sports.williamhill.com/bet/en-gb
[Accessed 7 Mar. 2018].
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Talebnia, G. and Aliari Erdi, M., 2018. Investigating the Relationship between Intellectual
Capitals in Improving Financial Performance Companies Listed in TSE.
Trumpp, C. and Guenther, T., 2017. Too Little or too much? Exploring U‐shaped Relationships
between Corporate Environmental Performance and Corporate Financial
Performance. Business Strategy and the Environment, 26(1), pp.49-68.
Capitals in Improving Financial Performance Companies Listed in TSE.
Trumpp, C. and Guenther, T., 2017. Too Little or too much? Exploring U‐shaped Relationships
between Corporate Environmental Performance and Corporate Financial
Performance. Business Strategy and the Environment, 26(1), pp.49-68.
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