Financial Analysis Report: Investment Appraisal using NPV and IRR

This report provides a financial analysis focused on investment appraisal techniques, specifically the Net Present Value (NPV) and Internal Rate of Return (IRR) methods. It begins by calculating the net present value of a company, detailing cash inflow calculations for the years 2021-2025, considering variable and fixed costs, tax implications, and discounted rates to determine the present value of cash inflow and the overall net present value. The report emphasizes the significance of NPV in evaluating investment projects and incorporating the time value of money. Furthermore, it estimates the Internal Rate of Return, highlighting its role in identifying beneficial projects, while also cautioning about potential complexities and the importance of accurate initial investment data. The analysis contrasts NPV and IRR, suggesting NPV as a simpler and more direct technique for investment decision-making. The report concludes that investment decision-making is crucial for business operations, with NPV and IRR being primary techniques to aid in this process, while reiterating the importance of considering all factors before making a final decision. Desklib provides various study tools and solved assignments for students.

FINANCIAL ANALYSIS
(REPORT)

Table of Contents
INTRODUCTION...........................................................................................................................3
MAIN BODY...................................................................................................................................3
Estimate net present value of company.......................................................................................3
(b) Estimated Internal Rate of Return.........................................................................................5
(C) Interpretation of result..........................................................................................................7
Comparison between the net present value and internal rate if retrh technqiue.........................8
CONCLUSION................................................................................................................................8
REFERENCES..............................................................................................................................10

INTRODUCTION
Investment appraisal is a defined as a technique that involve analysing the various
investment options that empower the company to address the investment in the best way possible
(Dhavale and Sarkis, 2018). This is a practice that is about to evaluate and interpret the particular
investment choice of the business entity. This is all about analysing the investment of the
business entity so that most appropriate investment decision company can take that can also
support the capital maximisation policy of the business entity. This project would discuss the
different investment appraisal techniques that can support the business venture for taking the
most suitable investment decision-making. Henceforth, report will emphasis over the net present
value technique of investment decision-making. Furthermore, project would emphasis over the
internal rate of return technique of investment appraisal practice. IN this project both the
techniques will be discussed and evaluation would be done in regard to the most suitable
technique available for investment appraisal practice.
MAIN BODY
Estimate net present value of company
Cash inflow calculation
2021 2022 2023 2024 2025
Sales 138000 207000 276000 207000 138000
Less:
Variable cost 54000 81000 108000 81000 54000
Fixed cost 30000 30000 30000 30000 30000
Profit 54000 96000 138000 96000 54000
Tax rate
@20%
10800 19200 27600 19200 10800
Cash inflow 43200 76800 110400 76800 43200
Year Cash flow Discounted rate
@10%
PV of cash
inflow
Accumulated
present value of

cash inflow
1 43200 .91 39312 39312
2 76800 .83 63744 103056
3 110400 .75 82800 185856
4 76800 .68 52224 238080
5 43200 .56 24192 262272
Net present value:
Present value of cash inflow – Initial investment
= 262272 – 32500
= 229772
Net present value is a value denoted as the net benefits company would get against
investing in a certain project. This is a net benefit associated with the business entity that is
incorporated with support of the certain value or investment made in the project. Net present
value is a core benefit company would gain against investing in a certain project. The role of the
net present value method is about to invest in the project that can provide the financial benefit to
the business entity (Gaspars-Wieloch, 2019). The role of the net present value of company is all
about analysing the net benefit company gain against investing in the certain project. IN the
existing proposal available with the company the total benefit company would get against
investing in the project is the 262272 in the overall time frame of five financial years. The basic
rule of the net present value technique is that the only project option or choice is accepted that
can demonstrate the best level of results financial outcome against investing in the project
option.
AS per the rule of the net present value technique such proposal option or choice is
accepted that allocate or offer the best possible net present value against the investment made in
the project. The more the net present value is in the project the more the project suits to the
investor for investment purpose. The basic significance of the net present value technique is that
this involves investing in the project that can offer the best possible level of financial outcome
against investing in the project (Richmond, 2018). This make it significant for the business entity
to ensure the best suitable financial inflow that can offer the most advanced level of growth and

development possibilities to the business house. The basic advantage associated with the net
present value is that this also involve the time value of money factor when it comes to calculate
about the net present value of the project. This proposal option allow and support the business
entity to evaluate the project on the basis of the net present value generated by the company
against the investing in the certain project option. Inclusion of time value of money make the
project option more suitable for the business entity in against to deliver the project option. Time
value is a significant factor as this is an economical fact that value of money would decrease in
the for coming financial years. The time value of money would always decrease the value of
currency in the market. This factor allows the company to determine the most feasible cash
inflow that could match up with all the hurdles associated with the possible future value of
currency in market. Inflation always create an impact over the current value of currency that is
also involved under the technique of net present value.
The above stated calculation clearly indicate that the time value of money is calculated
while determining the present value of cash inflow. The rate is taken as 10% that is more feasible
in nature. This is analysed that the value of money or currency is decreasing with the 10% rate
every single financial year. This is an obvious fact that the value of money that is decreased
would also impact over the cash inflow calculated (Doménech Martínez, Campos Fernández, and
Villar Collado, 2019). This would certainly decrease the inflow in the business operations. This
is a clear fact associated with the business entity that the time value of money certainly affected
the overall operations of the organisation along with it influence the cash inflow of the project
proposal. The above stated calculation also project that the time value of money is decreasing
every single financial year. The role of the net present value technique is very crucial and
significant in nature as it allow the business venture to support the present value of cash inflow
by allocating the best suitable inflows in the project. The projected cash flows are only
hypothetical in nature they are not exact as the cash flows are associated with the future time
frame. The use of net present value technique is supported by many financial experts and
professional who understand about the use of the present value of monetary. The inflation would
always decrease the potential future cash flow with its involvement under the business
operations. The key strength of this technique is that it always involve the time value or the
impact of inflation in evaluation of the cash inflow under the project.

(b) Estimated Internal Rate of Return
Year Cash flows Cost of
capital @10%
Present value
of cash flow
Cost of
capital @
400%
Present Value
of cash flow
Initial cost 32500 (32500) (32500)
2021 43200
(138000 –
54000 –
30000 -
10800)
.909 39268.8 .2 8640
2022 76800
(207000 –
81000 –
30000 -
19200)
.826 63436.8 .04 3072
2023 110400
(276000 –
108000 –
30000 -
27600)
.751 82910.4 .008 883.2
2024 76800
(207000 –
81000 –
30000 -
19200)
.683 52454 .0016 122.88
2025 43200
(138000 –
54000 –
30000 -
.621 26827.2 .00032 13.824

10800)
Total NPV 264897.2 -19768.09
IRR = Lower rate + [ (N1/ N1 – N2) * (2 - 1)
Here, N1 = NPV at lower rate
N2 = NPV at higher rate
2 = higher rate
1 = lower rate
10% + [(264897.2/ 264897.2 + - 19768.09)] * 200 – 10
= 215%
As because, in the given question the initial investment on the new machinery is not given so
here the actual cost invested in the research and development is taken as initial investment. This
indicate that the IRR is 215%.
The IRR is a method of the calculation of investment appraisal which helps the finance expert
and manager to identify and analyse which project is beneficial for the sake of the company. In
this case the 215% of the IRR is indicate that if company invest 32500 amounts in the new
machinery currently than they will get a return of 215% in the upcoming five years. Basically,
this calculation is not sufficient and relevant for the purpose of decision making because there is
a lack of information regarding the initial investment. The company have to invest in the project
plan because it is beneficial for the company in the term of both the NPV and IRR.
(C) Interpretation of result
The IRR method is important for the purpose of identifying the sufficiency and beneficial of the
projects but applying this technique also create complexity to the company which need to be
consider by the company. It is because if once the amount gets invested in any plan than
reversing the decision is quite impossible which further result into the loss of the whole empire
and business. But on the other side, if the company uses such a techniques correctly for the
purpose of identifying best investment plan the company will receive higher returns. The same
case with this that the company are receiving the return of 215% which is not correct in the
reality because of the lack of information of initial investment (Richmond, 2018). That’s why it
is always advisable to the company that before adopting any investment appraisal technique they

must know about the initial cost of the project because without such information analysing the
correct result is not possible. The positive NPV of the project also indicate that the company
must invest in this project but that result is depending upon the R&D cost of machinery rather
than initial investment information.
Comparison between the net present value and internal rate if retrh technqiue
The investment appraisal techniques are immensely segregated into different types. The
net present value technique is all about analysing the actual value in amount company would
entertain against the investment made in a certain project. This is considered as the net financial
benefit company would gain against the investment entertained by the project. This technique
look more professional and feasible in nature when it comes to analysing the investment in the
project. On the other hand the internal rate of return is a technique that is about to analysis the
expected rate of return company would gain against investing in the project. This is a rate of
return against the investment in the project (Peymankar and Ranjbar, 2019). The basic different
between the internal rate of return technique and the net present value method is that in one
method the benefit is denoted in overall value and in one technique the rate is identified that can
denote the total benefit company could gain against the investment made in the project.
The critical assessment of both the techniques denote that the net present value method is
more simple technique in nature when it comes to analysis of the investment decision making of
the project. The role of the net present value method is to state the investor about the actual
outcome and benefit to the investor against making the investment decision making. This is
about to state the best possible level of outflow company would entertain against making the
investment decision-making (Mellichamp, 2017). ON the other hand internal rate of return
technique state only about the percentage of outcome company would gain against the
investment made in the project. Both the technique has its own significance but this is obvious
that many times internal rate of return technique mislead to the decision-making process of the
investor as it denote the rate. Whereas, the net present value method indicate about the total
expected outcome against the investment made in the project. Both the technique has a different
projection but net present value is more feasible in nature as compare to the internal rate of reyrb
technique when it comes to making the investment decision making.

CONCLUSION
The investment decision making is about the process that involve making the best level of
investment decision-making for the business operation. The technique that allow the company to
take the investment decision-making involve internal rate of return technique and the net present
value technique on a priority basis. ON the basis of the comparative assessment between both the
technique it is determined that the net present value method is more feasible in nature to take the
investment decision whereas the internal rate of return technique is not like that much effective.

REFERENCES
Books and Journal
Dhavale, D. G. and Sarkis, J., 2018. Stochastic internal rate of return on investments in
sustainable assets generating carbon credits. Computers & Operations Research, 89.
pp.324-336.
Doménech Martínez, S., Campos Fernández, F. A. and Villar Collado, J., 2019. Generation
expansion planning based on positive net present value.
Gaspars-Wieloch, H., 2019. Project net present value estimation under uncertainty. Central
European Journal of Operations Research, 27(1). pp.179-197.
Kulakov, N. and Blaset, A., 2020. Rehabilitation of the Internal Rate of Return. Available at
SSRN 3593173.
Mellichamp, D .A., 2017. Internal rate of return: Good and bad features, and a new way of
interpreting the historic measure. Computers & Chemical Engineering, 106. pp.396-
406.
Negrete, G .L., 2020. A review of:“THE MODIFIED INTERNAL RATE OF RETURN AND
INVESTMENT CRITERION”, A REPLY.
Peymankar, M. and Ranjbar, M., 2019, June. Net present value maximization in project
scheduling with an external resource. In Workshop on Models and Algorithms for
Planning and Scheduling Problems, MAPSP 2019.
Richmond, A., 2018. Direct net present value open pit optimisation with probabilistic models.
In Advances in applied strategic mine planning (pp. 217-228). Springer, Cham.