Running head: MILESTONE 3 1
MILESTONE 3 4
Robert Shulzinsky
Southern New Hampshure University
6 January 2018
Capital Budgeting Data
Net Present Value (NPV) of the Project
Net Present Value for the project for the five years will be given by the NPV value for the cash flows as shown by the capital budgeting sheet for milestone 3 minus the initial outlay.
NPV of the project = (CF1+CF2+CF3+CF4+CF5) – Initial outlay
= ($21,453,688.38)
Internal Rate of Return (IRR) of the Project
Internal rate of return (IRR) represents the interest rate at which the net present value of all the cash flows of a project will break even or will be equal to just zero value. From the calculations on the capital budgeting sheet of the milestone 3, the IRR of the project is 34% meaning that the company’s investments will need to grow at a rate of 34% to equal the initial outlay, which is way much higher than the interest rate in the market.
Implications of the Calculations
One of the implications of the calculations of the net present value calculations of the project is that it reduces that amount of cash flows for the project. Net present value calculations discount the amount of funds that will be received in future using the interest rate of the company. In this context, the amount is discounted because of the effect of time on the money received b a company. Another aspect of the net present value is that it enables the management of the company anticipate what the company will receive in future and take into account the inflows and outflows when making decisions (Peterson & Fabozzi, 2014).
On the other hand, internal rate of return provide a metric in capital budgeting for measurement of the profitability of a project with the given investments. The 34% internal rate of return mean that the company will require to grow its investments or the compound the investments by 34% in order to enable the company make the investment. A high internal rate of return is desirable when the company want to undertake the project. I would recommend the company to reject the project since it provides a negative net present value meaning that it will not be able to repay the initial outlay of funds in the company. In this context, the company will only be able to make cash flows, which are positive but not able to recover its outlay. Regardless of the fact that the IRR of the company is high, which is good for any investment, the net present value does not do any good to the project (Peterson & Fabozzi, 2014).
Difference between NPV and IRR
Net present value uses the market interest rate to discount the cash flows of the company showing the real money value that will be received by the company over time. The company uses the net present value to evaluate the project because the amount received today may be worth more in future or the value that is anticipated to be received in future is worth much less at the present time. On the other hand, internal rate of return is the rate at which the net present values of the company will be just equal to zero. To assess the project, it is important to use the internal rate of return of the company because it shows the real rate of growth of the investments regardless of the amount of future cash flows.
References
Peterson, P., & Fabozzi, F. (2014). Capital Budgeting: Theory and Practice. Hoboken, NJ: John Wiley & Sons.