Evaluation of Pinto Limited's Project: Financial Analysis Report

This report evaluates a prospective project for Pinto Limited through a comprehensive financial analysis. It employs several investment appraisal methods, including Net Present Value (NPV), Internal Rate of Return (IRR), Profitability Index (PI), Payback Period, and Discounted Payback Period. The analysis includes detailed financial calculations, such as sales data, cost of goods sold, SG&A expenses, depreciation, and tax implications, to determine net income and cash flows over a five-year period. The report presents the calculations for each method, providing insights into the project's financial viability and profitability. The analysis concludes with recommendations based on the results obtained from each method, with the final recommendation that Pinto Limited should accept the proposed project based on its positive NPV, PI greater than one, IRR exceeding the target rate of return, and acceptable payback periods.

RUNNING HEAD: FINANCE
FINANCE

FINANCE 1
PINTO LIMITED
16 May 2018
To: CEO
From: Operations Manager
Subject: Evaluation of Financial Analysis through NPV, IRR, PI, payback period and
Discounted Payback Period
INTRODUCTION
In this assignment, the Pinto Limited is undertaking a financial analysis of a
prospective project through Net present value method, Internal rate of return method,
Profitability index method, Payback period, Discounted pay back method. Further the results
of this assignment is ended with the recommendations.
Net Present Value Method (NPV)
Net present value is the investment appraisal method which defines the probable
returns from the investment. This is very easy in determining whether to put in the new
project if the NPV value is zero or more.
The Net present value is calculated by subtracting the initial investment cost from the
PV of cash inflows for the given 5-year period. The positive NPV represents that proposed
project produces returns while negative NPV represents that proposed project does not
produce returns and zero NPV signifies the indifferent position (Shapiro, 2005).
According to this case, Pinto limited considers the proposed project with the positive
NPV of $ 62,59,890.
Internal rate of return method (IRR)

FINANCE 2
This method is also an investment appraisal method. IRR is a discount rate which
presumes PV of Cash inflows are equal to PV of cash Initial project cost. In other words, it
means NPV is equal to zero. This method is also termed as time-adjusted rate of return
method (Bierman Jr and Smidt, 2012).
The proposed project should be accepted only when IRR > hurdle rate (Shapiro,
2005).
According to this case, Pinto limited considers the proposed project because IRR is
22.38% which is greater than minimum rate of return (i.e. 10%).
Profitability Index Method (PI)
PI is an investment appraisal method used by the business firms. This method links
between Initial project cost and the projected returns (Brooks and Mukherjee, 2010).
The profitability index (PI) is calculated by apportioning the PV of cash inflows by
the initial project cost of the proposed project. If the ratio is > 1, then the offer should be
accepted whereas if the ratio is < 1, then the offer should not be accepted but where the ratio
is 1, then it is considered as indifferent situation.
According to this case, Pinto limited considers the proposed project because PI is 1.35
which is more than 1.
Payback period Method
Payback period is an investment appraisal method used by the business firms. This
method is used to identify the time required to recover initial project cost from the produced
cash inflows (Brooks and Mukherjee, 2010).

FINANCE 3
Thus, the proposed project should be accepted when payback period < given number
of years.
According to this case, Pinto limited considers the proposed project because Payback
period is 2.68 years which is less than given no. of years (i.e. 5 years).
Discounted Payback Period Method
Discounted Payback period is an investment appraisal method used by the business
firms. This method is used to identify the time required to recover initial project cost from the
discounted cash inflows (Brooks and Mukherjee, 2010).
Thus, the proposed project should be accepted when discounted payback period <
given number of years.
According to this case, Pinto limited considers the proposed project because
discounted Payback period is 3.24 years which is less than given no. of years (i.e. 5 years).
FINANCIAL CALCULATIONS
General assumptions
Income tax rate 30%
Discount rate 10%
Sales data 0 1 2 3 4 5
Sales price per unit $75.00 $77.25 $79.57 $81.95 $84.41
Unit sales 2,00,000
3,00,00
0
4,50,00
0
2,25,00
0
1,12,50
0
Net income 0 1 2 3 4 5
Revenues $150,00,
000
$231,75
,000
$358,0
5,375
$184,39
,768
$94,96,
481
– Cost of goods sold
(60% of revenues)
$90,00,0
00
$139,05
,000
$214,8
3,225
$110,63
,861
$56,97,
888
– SG&A expenses $10,00,0
00
$10,50,
000
$11,02,
500
$11,57,
625
$12,15,
506
– Depreciation expense $30,00,0
00
$30,00,
000
$30,00,
000
$30,00,
000
$30,00,
000
Taxable income $20,00,0 $52,20, $102,1 $32,18, -

FINANCE 4
00 000 9,650 282 $4,16,9
14
– Taxes $6,00,00
0
$15,66,
000
$30,65,
895
$9,65,4
85
-
$1,25,0
74
After-tax income $14,00,0
00
$36,54,
000
$71,53,
755
$22,52,
798
-
$2,91,8
40
Working Capital 0 1 2 3 4 5
Net working capital $30,00
,000 $0 $0 $0 $0 $0
Annual Net Cash Flow
Estimates 0 1 2 3 4 5
Investment in plant &
equipment
$150,0
0,000 $0 $0 $0 $0 $0
Investment in net
Working capital (20%
of year 1 sales
revenues forecast)
$30,00
,000 $0 $0 $0 $0 $0
net working capital $0 $0 $0 $0
$30,00,
000
Net income
$0
$14,00,0
00
$36,54,
000
$71,53,
755
$22,52,
798
-
$2,91,8
40
Add back depreciation
(non-cash expense) $0
$30,00,0
00
$30,00,
000
$30,00,
000
$30,00,
000
$30,00,
000
Net cash flows during
forecast period
-
$180,0
0,000
$44,00,0
00
$66,54,
000
$101,5
3,755
$52,52,
798
$57,08,
160
Cumulative cash flows
-
$180,0
0,000
-
$136,00,
000
-
$69,46,
000
$32,07,
755
$84,60,
553
$141,68
,713
Discounted cash flow
(PV)
-
$180,0
0,000
$40,00,0
00
$54,99,
174
$76,28,
666
$35,87,
731
$35,44,
318
Cumulative discounted
cash flow
-
$180,0
0,000
-
$140,00,
000.000
-
$85,00,
826.446
-
$8,72,1
60.030
$27,15,
571.392
$62,59,
889.769
`
NPV
$62,59
,890
IRR
22.38
%
Payback period
2.68
years
Notes:
Cumulative cash flows become positive sometime after 2 full years, with $
6946000 still to be recovered in the 3th year.
Cash flow in year 3 is $ 10153755 in total. Assuming cash flows come in at a constant rate during
year 3, the payback period = 2 + 6946000/10153755 = 2.68 years.
Discounted payback
period
3.24
years
Notes:

FINANCE 5
Cumulative discounted cash flows become positive sometime after 3 full years, with
approximately $ 872160 still to be recovered in the 4th year.
Discounted cash flow in year 4 is $ 3587731. Assuming cash flows in at a constant rate during year
4, discounted payback period = 3 + 872160/3587731 = 3.24 years.
Profitability index 1.35
Assumptions:
1. Pinto limited paid $ 25000 in fees to consultants for a market analysis related to the project it is
considered as SUNK COST and hence ignored in the total calculations.
2. Currently Pinto rents this building to another company for $250,000 per year.
This is considered as OPPORTUNITY COST and hence ignored in the total calculations.
Also refer MS-excel workbook for the calculations.
RECOMMENDATIONS
As a result, from the above analysis it can be inferred that Pinto Limited should accept
the proposed project because net present value is positive, its profitability index is also more
than one, IRR is also more than target rate of return and last but not the least the payback and
discounted payback period both are less than the given no. of years.

FINANCE 6
REFERENCES
Brooks, R. and Mukherjee, A.K., 2010, Financial management: core concept, Pearson.
Shapiro, A.C., 2005, Capital budgeting and investment analysis, Prentice hall.
Bierman Jr, H. and Smidt, S., 2012, The capital budgeting decision: economic analysis of
investment projects, Routledge.