Project Evaluation: IRR and NPV

This assignment requires students to evaluate a proposed project for Lecture Studies Limited. The evaluation utilizes two key financial metrics: the Internal Rate of Return (IRR) and the Net Present Value (NPV). Students are tasked with calculating both metrics under two different forecasts, analyzing the results, and ultimately determining whether or not the company should accept the project based on these calculations.

Question 1
Following table shows whether a key performance indicator is strategic or operating and driver
or outcome.
Strategic or operating Driver or outcome
Major brand building advertising spend Strategic Driver
Loan approval times Strategic Driver
Loan approved (in dollars) Operating Outcome
Loan applications numbers received online Operating Driver
Loans numbers sent for collection due to being 60
days overdue
Strategic Driver
Profitability of the loan book Operating Outcome
Percentage of loans funded against loans approved Operating Outcome

Question 2
1. Sales budget
A B
Unit sold 16200 11800
Unit selling price $ 14.35 $ 12.20
Sales $ 232,470.00 $ 143,960.00
2. Production budget
A B
Units sold 16200 11800
Closing inventory 8100 6600
Total available units 24300 18400
Opening inventory 5100 2600
Units produced 19200 15800
3. Purchases budget for components
4. Purchases budget in dollars
Component X
A B
units produced 19200 15800
Component X required per unit 5 3
Direct material required 96000 47400
Total direct material required 143400
closing inventory 46000
Opening inventory 38000
Component X units purchased 104000
Cost per unit Component X $ 0.68
cost of purchase $ 70,720.00
Component Y
A B
units produced 19200 15800
Component X required per unit 2 4

Direct material required 38400 63200
Total direct material required 101600
closing inventory 19500
Opening inventory 13500
Component X units purchased 44400
Cost per unit Component X $ 0.24
cost of purchase $ 10,656.00
5. Total labor hours and costs for the six months
A B
units produced 19200 15800
Budgeted labor hour per unit 2 1
Time required (hours) 38,400.00 15,800.00
Labor cost per hour $ 4.50 $ 4.00
Labor cost $ 172,800.00 $ 63,200.00
6. Contribution per unit
A B
Sales price per unit 14.35 12.2
Less: Variable cost
Direct material
Component X $ 3.40 $ 2.04
Component Y $ 0.48 $ 0.96
Labor cost $ 9.00 $ 4.00
Total variable cost $ 12.88 $ 7.00
Contribution per unit $ 1.47 $ 5.20
7. Profit and Loss forecast for the six months
A B Total
Unit sold 16200 11800
Contribution per unit $ 1.47 $ 5.20
Total contribution $ 23,814.00 $ 61,360.00 $ 85,174.00
Overhead costs $ 250,000.00
Net profit/(loss) $ (164,826.00)

Question 3

a. The breakeven point is a point where all incomes become equal to all costs. This point in
a number of units calculated by dividing fixed cost from contribution per unit and in
dollars calculated by dividing fixed cost from contribution margin.
Selling price A $ 250.00
Variable cost per unit B $ 185.00
Contribution per unit C=A-B $ 65.00
Contribution margin D=C/A 26.00%
Fixed cost E $ 250,000.00
Break-even point in units F=E/ C 3846.15
Break-even point in dollars G=E/D $ 961,538.46
b. Break-even chart
0 500 1000 1500 2000 2500 3000 3500 4000 4500 5000
$-
$200,000.00
$400,000.00
$600,000.00
$800,000.00
$1,000,000.00
$1,200,000.00
$1,400,000.00
Fixed cost
Total cost
Total sales
Number of units
Break even
point 3846.15
units
Loss Area
Profit Area
c. Profit for sales of 5000 units

Selling price $ 1,250,000.00
Less: Variable cost per unit $ 925,000.00
Contribution per unit $ 325,000.00
Less: Fixed cost $ 250,000.00
Profit $ 75,000.00
d. In the present case leasing a new equipment will result in a cost of $200000 per annum
and benefit of $10 i.e. $185-$175 per unit due to the reduction of variable cost per unit.
As well as increase in contribution of 8100-5000 units i.e. 3100 units. Hence this can be
taken by making following calculations,
Relevant cost of accepting the decision
Leasing cost $200,000
Relevant benefit of accepting the decision
Reduction of variable cost 8100*10= $81,000
Increase in contribution 3100*65=$201,500
Net profit due to acceptance of decision $82,500

Question 4
a. Accounting rate of return
Forecast 1 Forecast 2
Average accounting profits $ 6,000.00 $ 7,600.00
Average Investment $ 9,000.00 $ 9,000.00
Accounting rate of return 66.67% 84.44%
Lecture Studies Limited should accept the project because it is having higher accounting rate of
return under each forecast.
Working notes
Calculation of Average accounting profits
Year Annual accounting profits
Forecast 1 Forecast 2
1 $ 6,000.00 $ 6,000.00
2 $ 6,000.00 $ 7,000.00
3 $ 6,000.00 $ 12,000.00
4 $ 6,000.00 $ 3,000.00
5 $ 6,000.00 $ 10,000.00
Total $ 30,000.00 $ 38,000.00
Average accounting profits $ 6,000.00 $ 7,600.00
Calculation of Average Investment
Project Cost $ 20,000.00
- Residual value $ 2,000.00
Average Investment $ 9,000.00
b. Payback period
Payback period under forecast 1
Year Cash flows Cumulative cash flows
0 Project cost $ (20,000.00) $ (20,000.00)
1 Cash inflow $ 6,000.00 $ (14,000.00)
2 Cash inflow $ 6,000.00 $ (8,000.00)
3 Cash inflow $ 6,000.00 $ (2,000.00)
4 Cash inflow $ 6,000.00 $ 4,000.00

5 Cash inflow $ 8,000.00 $ 12,000.00
Payback period = 3+ 2000/6000 = 3.33 years i.e. 3 years 4 months
Year Cash flows Cumulative cash flows
0 Project cost $ (20,000.00) $ (20,000.00)
1 Cash inflow $ 6,000.00 $ (14,000.00)
2 Cash inflow $ 7,000.00 $ (7,000.00)
3 Cash inflow $ 12,000.00 $ 5,000.00
4 Cash inflow $ 3,000.00 $ 8,000.00
5 Cash inflow $ 12,000.00 $ 20,000.00
Payback period = 2+ 7000/12000 = 2.5833 years i.e. 2 years 7 months
Lecture Studies Limited should accept the project if the project will produce forecast 2 because it
is lower than the maximum payback and if the project will produce forecast 1 than the company
should reject the project.
c. Internal rate of return
Forecast 1
Yea
r Cash flows
Cash flow discounted at
17%
Cash flow discounted at
18%
0 Project cost $ (20,000.00) $ (20,000.00) $ (20,000.00)
1 Cash inflow $ 6,000.00 $ 5,128.21 $ 5,084.75
2 Cash inflow $ 6,000.00 $ 4,383.08 $ 4,309.11
3 Cash inflow $ 6,000.00 $ 3,746.22 $ 3,651.79
4 Cash inflow $ 6,000.00 $ 3,201.90 $ 3,094.73
5 Cash inflow $ 8,000.00 $ 3,648.89 $ 3,496.87
Total $ 108.30 $ (362.76)
IRR= 17%+108.30*((18-17)/ (108.30+362.76)) = 17.23%
Forecast 2
Year Cash flows
Cash flow discounted at
26%
Cash flow discounted at
27%
0 Project cost $ (20,000.00) (20,000.00) (20,000.00)
1 Cash inflow $ 6,000.00 4,761.90 4,724.41
2 Cash inflow $ 7,000.00 4,409.17 4,340.01
3 Cash inflow $ 12,000.00 5,998.87 5,858.28
4 Cash inflow $ 3,000.00 1,190.25 1,153.20

5 Cash inflow $ 12,000.00 3,778.58 3,632.14
Total 138.78 (291.96)
IRR= 26%+138.78*((27-26)/ (138.78+291.96)) = 26.32%
Lecture Studies Limited should accept the project because it having an internal rate of return
more than the required rate of return.
d. Net present value
Forecast 1
Year Cash flows PVIF @ 10% Cash flow discounted
0 Project cost $ (20,000.00) 1.00 $ (20,000.00)
1 Cash inflow $ 6,000.00 0.91 $ 5,454.55
2 Cash inflow $ 6,000.00 0.83 $ 4,958.68
3 Cash inflow $ 6,000.00 0.75 $ 4,507.89
4 Cash inflow $ 6,000.00 0.68 $ 4,098.08
5 Cash inflow $ 8,000.00 0.62 $ 4,967.37
NPV $ 3,986.56
Forecast 2
Year Cash flows PVIF @ 10% Cash flow discounted
0 Project cost $ (20,000.00) 1.00 $ (20,000.00)
1 Cash inflow $ 6,000.00 0.91 $ 5,454.55
2 Cash inflow $ 7,000.00 0.83 $ 5,785.12
3 Cash inflow $ 12,000.00 0.75 $ 9,015.78
4 Cash inflow $ 3,000.00 0.68 $ 2,049.04
5 Cash inflow $ 12,000.00 0.62 $ 7,451.06
NPV $ 9,755.54
Lecture Studies Limited should accept the project because it having positive net present value.