ACC00716 Finance Session 3, 2018: Pinto Limited Business Case Study

This document presents a comprehensive financial analysis of a business case study for Pinto Limited, addressing a project expansion into a new product market. The analysis, conducted under specific assumptions, calculates key financial metrics including Net Present Value (NPV), Payback Period, Discounted Payback Period, Profitability Index, and Internal Rate of Return (IRR). The project's feasibility is evaluated using these methods, with a positive NPV of $61,65,120 and an IRR of 23.7% indicating a potentially lucrative investment. Sensitivity analysis explores the impact of changes in sales volume and production costs. The study recommends proceeding with the project based on the quantitative analysis, while also advising a qualitative assessment before a final decision is made. The case study emphasizes the importance of cost management, as variations significantly impact project viability.

ACC00716 Finance Session 3, 2018
Assessment 3 : Business Case Study 2
Introduction
Pinto Limited in the recent period has faced very stiff competition from its overseas competitors and
has decided to expand its business and enter into a new product market with a higher risk profile
than the present risk profile of the company. On the basis of the said rationale, a feasibility analysis
of the project has been carried based on following assumptions:
(a) The fees paid to consultant is a sunk cost and even the tax deduction of the same is not
considered for analysis;
(b) There has been no increase in rent on year on year basis during the tenure of 5 years of project.
(c) The tax rate of depreciation and the accounting rate of depreciation remains same for the
purpose of carrying out feasibility analysis;
(d) There has been depreciation allowance under the laws of income tax of the country;
(e) The machine has no wear and tear or any repair during the period of 5 years.
On the basis of aforesaid assumptions, the analysis has been carried here-in-below based on
following details:
(a) The cost to be incurred on machinery up front stands at 15 Million Dollar with nil salvage value
and depreciable over 5 years under straight line method;
(b) The sales conducted by the company stands at 2,00,000 and increases by 50% in year 2 and 3
and decrease by 50% in year 4 and 5.
(c) The sale price of product shall be initially $75 and shall increase by 3% on year on year basis;
(d) The cost of production has been estimated at 60% of sales revenue on year on year basis;
(e) The Selling , Administration and General Expense has been taken at $ 1 Mio and shall increase
by 5% on year on year basis;
(f) The rate of tax has been taken at 30%;
(g) The Weighted Average cost of capital is taken at 10%;
(h) The Investment in Working Capital upfront is taken at 20% of year 1 sales and is expected to be
realised at the end of project.
Feasibility Analysis
The project evaluation methods include the following:
(a) Net present Value Method: This is one of the most common financial analysis tool which is
based on concept of time value of money whereby the future value of cash flows are
discounted to their present value and the difference of upfront investment and the present
value of cash flows is considered to establish the feasibility of project. (Wilkinson, 2019) If the
present value of future cash flows is higher compared to initial investment, the Net Present
Value is positive. The higher the value of Net Present Value, the better the project.
In the present case, the Net Present Value has been computed at $ 61,65,120 which is positive.
Hence, the project shall be accepted. (Refer Excel for detailed computation)
(b) Payback period: This is the simplest financial analysis tool under which the inflow is compared
to outflow and the period in which upfront outflow is realised by the company. This method

does not recognise the time value of money and very easy to compute.
(AccountingExplained.com , 2013) Further, the method does not take into consideration the
period beyond the payback period.
In the present case, the payback period has been computed at 2.58 years which is less than life
of project. Hence, the project shall be accepted. (Refer Excel for detailed computation)
(c) Discounted Payback period: This is an important financial analysis tool under which the inflow is
compared to outflow and the period in which upfront outflow is realised by the company. This
method does recognise the time value of money and weed out the incompetency of payback
period. Further, the method does not take into consideration the period beyond the payback
period.
In the present case, the discounted payback period has been computed at 2.97 years which is
less than life of project. Hence, the project shall be accepted. (Refer Excel for detailed
computation)
(d) Profitability Index: Under this tool of financial analysis, the present value of net inflows is
compared to upfront investment made in the project. (CFI Education Inc., 2019) If the divided
figure of inflow to outflow is greater than 1 than the project shall be accepted.
In the present case, the Profitability Index has been computed at 1.37 which is greater than 1.
Hence, the project shall be accepted. (Refer Excel for detailed computation)
(e) Internal Rate of Return: Under this tool of financial analysis, the rate of return is computed at
which the present value of cash flows is equal to upfront investment made in the project.
In the present case, the Internal Rate of Return has been computed at 23.7% which is greater
than weighted average cost of capital. Hence, the project shall be accepted. (Refer Excel for
detailed computation)
Sensitivity Analysis
Under the sensitivity analysis, the following sensitivity has been analysed:
(a) Sales volume increased by 25%;
(b) Cost Increased by 25%;
(c) Sales decreased by 25%
The analysis figures under the said situation has been detailed here-in-below:
Simulation showing the result of Financial Analysis under different sensitivity
Sl
No Particulars Sensitivity 1 Sensitivity 2 Sensitivity 3
1 Net Present Value 1,14,95,673 - 20,43,942 8,34,567

Simulation showing the result of Financial Analysis under different sensitivity
Sl
No Particulars Sensitivity 1 Sensitivity 2 Sensitivity 3
2 Payback period 2.28 3.58 3.08
3 Discounted payback period 2.57 4.30 3.64
4 Profitability index 1.68 0.88 1.05
5 IRR 34% 5.1% 12.01%
On perusal of the above table, it can be seen that cost of production is one of the critical factor and
if there is a variation of 25% in cost it can significantly impact the project and make it unfeasible.
However, the volume is not such a critical factor as the project is still feasible under the variation of
25%
Recommendation
Based on the above analysis and the sensitivity computation made, the project is quite lucrative and
company should take steps to proceed a head in this project. Further, all the five financial analysis
tools are positive for the said project. Hence the same shall be accepted.
In addition, the net present value of the project is significantly positive and turns negative scenario
which is not likely to occur except under an adverse market scenario. Thus. It is recommended to go
ahead with the project based on only quantitative front. Further, it is a advised to go for qualitative
analysis before taking final decision.
References:
AccountingExplained.com , 2013. Payback Period. [Online]
Available at: https://accountingexplained.com/managerial/capital-budgeting/payback-period
[Accessed 3 February 2019].
CFI Education Inc., 2019. Profitability Index. [Online]
Available at: https://corporatefinanceinstitute.com/resources/knowledge/accounting/profitability-
index/
[Accessed 3 February 2019].
Wilkinson, J., 2019. Net Present Value Method. [Online]
Available at: https://strategiccfo.com/net-present-value-method/
[Accessed 3 February 2019].