Business Decision Making

This essay explores the process of decision making in business organizations and its impact on profitability. It discusses the calculation of payback period and net present value to analyze investment options. The practical implications and factors to consider in decision making are also discussed.

Business Decision
Making

Table of Contents
INTRODUCTION...........................................................................................................................1
MAIN BODY...................................................................................................................................1
1) Calculation of payback period................................................................................................1
2) Calculation of Net Present Value (NPV)................................................................................2
3) Analysis..................................................................................................................................2
4) Practical implications..............................................................................................................3
CONCLUSION ...............................................................................................................................4
REFERENCES................................................................................................................................5

INTRODUCTION
Decision making is considered as an essential process in all business organisation as it
helps managers in order to make appropriate and profitable decision makings that will contribute
to the high productivity and profitability (Hopkinson, 2017). The business decisions should be
made after analysing the requirements of company and then perform accordingly. In this, ABC
plc is chosen to study which is a computer software business where manager looks strategically
to invest in business and finds best opportunity for investment among two choices of Motors
software project and Hardware project. In this essay report the payback period and net present
value methods are used to analyse the best and suitable options for investment and profitable
also.
MAIN BODY
1) Calculation of payback period.
Year
Motor Software
Project A ( £ ) CCF ( £ )
Hardware
Project B ( £ ) CCF ( £ )
0 40,000 0 60,000 0
1 8,000 8,000 10,000 10,000
2 12,000
20,000
(8000+12000) 20,000
30,000
(10000+20000)
3 16,000
36,000
(20000+16000) 25,000
55,000
(30000+25000)
4 20,000
56,000
(36000+20000) 30,000
85,000
(55000+30000)
5 30,000
86,000
(56000+30000) 40,000
125,000
(85000+40000)
Formula:
Payback Period = Year before full recovery + Unrecoverable cost at the beginning of
year / cash flow during the year
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Motor Software (A) = 3 + £4000 / £20000
= 3 + 0.2
= 3 years and 2 months
So cost of this project will be covered in 3 years and 2 months.
Hardware (B) = 3 + £5000 / £30000
= 3 + 0.16
= 3.16 or 3 years and 1.5 months.
Cost of this project will be covered in 3 years and 1.5 months.
Working Note:
Motor Software (A)-
Unrecoverable cost at the beginning of year= 40000-36000
= 4000
Hardware (B)-
Unrecoverable cost at the beginning of year= 60000-55000
= 5000
Analysis: It has been viewed from the above calculation that ABC plc has two different choices
in order to invest but as per the calculation of Payback period there is no more differences in the
recovery period of both projects. As project B is the hardware business is more suitable in
comparison of Project A. so ABC plc should invest in project B which has their recovery period
of 3.16 years.
2) Calculation of Net Present Value (NPV)
Formula:
NPV = Present value of cash inflow – Present value of cash outflow
Year
Motor Software
Project A
PV @
12%
Discounted
Cash Flow
Hardware
Project B
PV @
12%
Discounted
Cash Flow
1 8000 0.893 7143 £ 10,000 0.893 8929
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2 12000 0.797 9566 £ 20,000 0.797 15944
3 16000 0.712 11388 £ 25,000 0.712 17795
4 20000 0.636 12710 £ 30,000 0.636 19066
5 30000 0.567 17023 £ 40,000 0.567 22697
Total 86000 57830 125000 84431
Net Present Value £ 17831 Net Present Value £ 24430
Net Present Value of Motor Software Project A= Initial investment – Discounted cash flow
= Investment: 40000
= Discounted cash flow: 57830
So, NPV= 57830-40000
= 17830 Pounds
Net Present Value of Hardware Project B = Initial investment – Discounted cash flow
= Investment: 60000
= Discounted cash flow: 84431
So, NPV: 60000-84431
= 24431 Pounds
NPV of project A is £ 17,831 and B is £ 24,430 so it is clearly shows that project B as
Hardware business has more net present value instead of project A so that project B is more
beneficial and profitable as well for the ABC plc in order to make investment decision. The
reason of this higher NPV of project B is that under this project amount of investment is higher
due to which cash flows are producing positive outcome in all years.
3) Analysis
Payback period:
It is related to the recovery period of initial investment of any projects as low payback
period is more beneficial because it attracts more investors in order to invest and high payback
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period is ignored by managers (Gaspars-Wieloch, 2019). From the above computation Project B
is more suitable for ABC plc because it has low period of recovery in comparison of project A.
Advantages Disadvantage
It is simple and easy to use for calculating
recovery period as it helps manager to analyse
the results of project. Also, this helps in
minimising the risk and make decisions
accordingly (Wellalage and Fernandez, 2019).
It doesn't regard time value of money that can
deviate outcomes and impacts on the manager
decisions. After calculating payback period
this does not consider cash inflows.
Net present value:
It is termed as a useful tool of capital budgeting which has been in used by the manager
of ABC plc in order to analyse the present value of cash flows (Arif, Bayraktar and Chowdhury,
2016). It is calculated on the basis of differentiate between PV of cash inflows and outflows.
From the above computation, the NPV of project A is £ 17,831 and for B is £ 24,430. among
both, manager should opt project B as an investment choice in comparison of A.
Advantages Disadvantage
It is helpful for the businesses to analyse that
whether the project is advantageous and
profitable or not in respect of investment.
It can not be compared with others as overall
calculation is based on discounting rate of
return that can differ final outcomes.
Financial factors:
Some of the financial factors includes borrowings interest rates, economic growth etc.
that can impact company's decision making procedure (Cheng, 2018). As high interest rate will
not have allowed people to invest more but low interest rate will motivate and encourage
individuals to invest for generating more revenue from investment. Apart from these financial
factors, there are some other aspects also such as inflation rate, exchange rates, market demand
and supply etc. All these factors need to considered by companies before making investment in
any project (Kgoroeadira, Burke and van Stel, 2019). It is so because any fluctuation in these
factors may lead to huge financial lose to company.
Non-Financial factors:
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With respect of ABC plc, the manager of company should analyse these factors as well
while making decisions that can be evaluated by the use of SWOT and PESTLE analysis. In
order to analyse internal factors SWOT will be used whereas, for external analysis PEST will be
used (Gordon, 2019). Along with these factors, there are some other aspects also such as
managing interest of stakeholders, environment inside the firm etc. These factors are too crucial
for success of a project.
4) Practical implications.
It can be analysed from the above analysis that Project B is most suitable to invest for
ABC plc. It is quite hard or difficult for managers to make strategic decisions on the calculation
of payback period as it results similar but manager can take decisions on the basis of net present
value (Wu and Kou, 2016). Company's manager should have formed appropriate decisions in
order to invest in Hardware project because it assists in facilitating high return on investment as
well as recover initial costs as compared to the project A Motors software. This is so because
under project A, the estimated time period to recover cost is of 3 years and 2 months. On the
other hands, the project B’ s cost will be recovered in 3 years and 1.5 months. Though, it is not a
huge difference between time period of recovering the cost. In the aspect of NPV, value of
project A is of 17830 and value of project B is of 24431 pounds. This is indicating that project B
is much viable and suitable for company in terms of both methods.
CONCLUSION
It can be concluded from the above essay or calculation that all these things are helpful
for the manager of company in order to know about the benefits and drawbacks by using several
techniques for investment appraisal such includes payback period method and net present value.
Also, analyse financial as well as non-financial factors that influence the decision making
procedure of managers.
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REFERENCES
Books & Journals
Arif, F., Bayraktar, M. E. and Chowdhury, A. G., 2016. Decision support framework for
infrastructure maintenance investment decision making. Journal of Management in
Engineering. 32(1). p.04015030.
Cheng, M. M. and et. al., 2018. Simulation and big data: in search of causality in big data-related
managerial decision making.
Gaspars-Wieloch, H., 2019. Project net present value estimation under uncertainty. Central
European Journal of Operations Research. 27(1). pp.179-197.
Hopkinson, M., 2017. Net Present value and risk modelling for projects. Routledge.
Wu, W. and Kou, G., 2016. A group consensus model for evaluating real estate investment
alternatives. Financial Innovation. 2(1). p.8.
Kgoroeadira, R., Burke, A. and van Stel, A., 2019. Small business online loan crowdfunding:
who gets funded and what determines the rate of interest?. Small Business
Economics, 52(1), pp.67-87.
Gordon, H., 2019. EMERGING TRENDS IN BUSINESS FINANCE: AFIA
PERSPECTIVE. AJAF, (2), pp.37-44.
Wellalage, N.H. and Fernandez, V., 2019. Innovation and SME finance: Evidence from
developing countries. International Review of Financial Analysis, 66, p.101370.
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