Financial Management: NPV, ARR, and the Goal of Wealth Maximization

This financial management report evaluates various investment appraisal techniques, including Net Present Value (NPV), Accounting Rate of Return (ARR), and Internal Rate of Return (IRR), to determine the most viable investment project for an organization. Project A is identified as the most favorable option due to its higher NPV, ARR, and IRR, aligning with the superior measure of capital budgeting for maximizing business profitability. The report also addresses the limitations of profit maximization as an organizational goal, highlighting its unrealistic nature, disregard for the time value of money, and failure to account for risk variations. Shareholder wealth maximization is presented as a more effective alternative, focusing on increasing the organization's value to its owners by considering future cash flows, timing, and risk factors, ultimately driving up the stock price in the market. Desklib provides access to this and other solved assignments for students.

Running head: FINANCIAL MANAGEMENT
Financial Management
Name of the Student:
Name of the University:
Author’s Note:
Course ID:

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Table of Contents
Question 1:.................................................................................................................................2
Requirement (a):.....................................................................................................................2
Requirement (b):....................................................................................................................3
Requirement (c):.....................................................................................................................4
Requirement (d):....................................................................................................................5
Requirement (e):.....................................................................................................................5
Requirement (f):.....................................................................................................................6
Question 2:.................................................................................................................................6
References:.................................................................................................................................8

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Question 1:
Requirement (a):

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Based on NPV, there are three acceptable projects, which include Projects A, C and
D.
Requirement (b):

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Requirement (c):
In order to compute the accounting rate of return, it is assumed that investment is
made in purchasing non-current assets and therefore, depreciation is applied following the
straight-line method. The depreciation amount is deducted from cash inflows to arrive at the
accounting income or net profit.

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Requirement (d):
Requirement (e):

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Requirement (f):
By considering the outcomes of the four investment appraisal techniques used, Project
A is deemed to be the most viable option for the concerned organisation. This is because
Project A has higher figure in terms of NPV, ARR and IRR and the only exception could be
witnessed in case of PBP where Project C is the most feasible option. Moreover, NPV is
considered as the most superior measure of capital budgeting and higher value is always
favourable (Gitman, Juchau and Flanagan 2015). Therefore, Project A needs to be chosen for
maximising the overall business profitability.
Question 2:
There are certain problems associated with using profit maximisation as the goal of an
organisation. Firstly, profit maximisation is not realistic. This is because there could be
different definitions of profit like economic profit based on market value or accounting profit
based on book value. Secondly, profit maximisation does not take into consideration the

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differences in when the money is received. More precisely, it does not segregate between
receiving a dollar at the current date and receiving a dollar starting after a year from now. The
role of the time value of money is significant for valuation of an asset or liability (Hooks and
Stewart 2015).
Thirdly, profit maximisation fails to take into account the risk variations among
alternative courses of action. When a choice is provided between two alternatives having the
same return with different risk, individuals tend to accept the less risky alternative. As a
result, it increases the value of the less risky alternative. Hence, profit maximisation does not
pay heed to such variations in value.
Shareholder wealth maximisation is increasing the value of the organisation to its
owners. The value of ownership of the organisation is the market value of the owned shares.
The wealth maximisation of the shareholders deals with the above-identified problems by
concentrating profit motives squarely on the owners. Firstly, no ambiguity could be identified
in the wealth of the shareholders. It is dependent on the current value of future cash flows
expected to be obtained by the shareholders, instead of an ambiguous notion of revenues or
profit. Secondly, the wealth of the shareholders relies explicitly on future cash flow timing.
Finally, the process for gauging the wealth of the shareholders accounts for variations in risk.
Therefore, the organisation needs to act in a manner that drives its stock price up in the
market.

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References:
Gitman, L.J., Juchau, R. and Flanagan, J., 2015. Principles of managerial finance. Pearson
Higher Education AU.
Hooks, J. and Stewart, R., 2015. The changing role of accounting: From consumers to
shareholders. Critical Perspectives on Accounting, 29, pp.86-101.