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finalreport1.docxRunning Head: CAPITAL PROJECTS
CAPITAL PROJECTS 6
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REPORT ON EVALUATION OF CAPITAL PROJECTS
ABSTRACT
This report analyzes evaluation of capital projects; it involves a detailed analysis of the computations of cash flows for the four projects at glance. To capture information, I used quantitative analysis, survey use of the capital budgeting tools as the main methods to figure out and get data on the flow of chain the system. As a finance manager, I will analyze three mid-class projects based on the managerial agreement on how the company will pursue in the upcoming fiscal year and involvement of Net Present Value and Internal Return Rate. The three projects include the major equipment purchase where I will analyze how this equipment appreciates its value within a certain period and the rate of appreciation and depreciation in case the item stays for so long in the market according to (Cirjevskis & Baduns 2015).
I was able to incorporate cash flows that involve the cash in through percentage increase as well as the cash out through taxation and depreciation after 8 years. The second project which is project B is expansion into Europe which aims to see some of the ways that the sales of this particular industry can extend and expand to Europe promoting the value and sale of their product under the rate of 10% increase rate for five years based upon $20 million initial capital of these products, I analyzed how a large tax wage of 30% affected the product into the new market in Europe.
The last project C that looks at the marketing and advertising campaign aimed to bring pout facts on how these products can advertise in the foreign country and maintain their value based upon the initial cost of $2 million per year consecutive for 6 working years. As a finance manager, I took the time to review the capital project requests in the field to enhance customer satisfaction which is the core principle for many business companies. Finally, I will finish the project by recommending the methodologies involved in their approach to the external market and branding of items in the three projects at hand.
INTRODUCTION
Capital budgeting tools are approaches used by different industries and companies to evaluate and analyze projects and investments, for example, a discounted cash flow and payback analyses are two best examples of a capital budgeting tool. In the portfolio, I have analyzed the basic functions of the finance manager like allocation of capital to areas that can increase shareholder value according to (de Andrés.et.al.2015). The three selected projects have an impact to add more value to the company profit margins and maximize the shareholders’ value as well.
COMPUTATION OF PROJECTS USING CAPITAL BUDGETING TOOLS.
Project A: Major Equipment Purchase
Basing on the data provided where the new equipment will cost $ 10 million which can reduce the cost of sales by 5% per year and the time frame for this equipment is 8 years. Basing on one of the capital budgeting tools that are accounting rate of return, this equipment can be sold as low as $500000 at the end of year 8. This is because this rate of the reduction applies upon cumulative eight years of business operation as shown below base upon incremental principle.
1st year will be 105% of $10million that becomes $10.5million.
2nd year will be110% of $10million that becomes $11million
3rd year will be 115% of $10million that becomes $11.5million
4th year will be 120% 0f $10million which becomes $12million
5th year will be125% of $10million which becomes $12.5million
The decreasing ratio also applies to the budget where the percentage decreases cumulatively until the end of the year 8 and this is the reason why the project was sold for salvage value around $500000 at the end of year 8 which according to the principle of capital budgeting tools fulfills the payback period concept.
With such in mind the project is said to be a safe investment since the rate of return is 8% based upon the real value of the commodity doubling by the end of the grace period in business as it depreciates at a MACRS 7-year schedule that ensures there is an accelerated cost recovery of an asset making a taxpayer have a low tax burden from the less net present value. Due to this reason where the taxpayer feels some relief, the project has had an annual sale at $20million for the situation maintained for 8 good years with the marginal corporate tax rate at 25% of the initial cost of the product at hand.
Project B: Expansion into Europe
This project came as a result of a good working environment that all stakeholders have ensured for example tax relief and better profit margins that called for the need to expand to the European sector. This comes in with the idea to increase the sales by 10% per year for the next five years, this vision can be achieved given that an upfront has been provided specifically to boost the current working capital through sections like the product and company advertisement, product branding as well as a reduction on the expenses.
The high European tax rate is the only threat towards the achievement of goals of expanding and nourishing in Europe thus the company seems to be in a risky investment that can see it incur some losses in the process stabilizing themselves. The company has therefore set a return rate of 12% which can be a gain or loss that an association incurs as it tries to set the best foot forward in foreign trade. The rate of return can be calculated as follows
Rate of return= Ending value of investment- Beginning value of investment ×100%
Beginning value of an investment
The rate of return helps the company to know whether they are progressing and nourishing or stagnating especially in a foreign trade where most factors retard the process behind.
Project C: Marketing/ Advertising Campaign
When the rate of returns for a company was negative of implied some sluggish in progress, there was a need for the company to take a moment and rebrand themselves again through different mechanisms like marketing styles, product and company advertisement so that they can obtain more customers especially in the current business with Europe. Advertising like any other department in the organization needs some extra expenditure and this is the region why we decided to set $2million aside every year for six consecutive years to advertise themselves and their products to the public according to (de Andrés.et.al.2015).
Through gaining more European customers, this sector has worked so positive to see the company experience an incredible 15% sales increase per year thus improving the profit margins of the company as well as earning more trust from their customers over the services they offer to people. It is anticipated that this camping can greatly improve the sales and thus curbing with the high marginal corporate tax rate that is presumed to be 25%. This project is considered a moderate risk since its success can see the company thriving to another level in terms of production and sales and thus the rate of return is considered to be 10% according to (Macharis & Bernardini 2015).
CAPITAL PROJECTS
RECOMMENDATIONS
a. Integration of IVP in capital projects
This becomes my outstanding Net Present Value (NPV) for the sake of future cash flows; NPV will help me to identify the value of investment security as we try and solidify in new regions and obtain fresh more customers. The table below shows NPV of a project
|
YEAR |
ANNUAL CASH FLOW |
DISCOUNT FACTOR |
NET PRESENT VALUE (NPV) |
CUMULATIVE NPV |
|
0 |
-500 |
1.00 |
-500 |
-500 |
|
1 |
-50 |
0.909 |
-45 |
-545 |
|
2 |
100 |
0.826 |
83 |
-463 |
|
3 |
250 |
0.751 |
188 |
-275 |
|
4 |
450 |
0.683 |
307 |
32 |
|
5 |
600 |
0.621 |
373 |
405 |
|
TOTAL |
|
|
405 |
|
The main importance of NPV to a capital project or even to the whole management is that it is able to show you the amount of dollars that capital project adds to the company bringing out the essence of spending money to get money. This is therefore a recommendation that every company should incorporate IVP in their business plans for them to succeed well and analyze their future success cycle.
a. Involvement of IRR
Another recommendable tool that companies need to integrate in their efforts to curb for future success is the Internal Rate of Returns which analyzes and estimates the profitability of potential investments using the knowledge of capital budgeting according to (Cirjevskis & Baduns 2015). They work hand in hand with NPV where the IRR is the discount that makes the NPV zero as shown in the table below
|
YEAR |
CASH FLOW |
PV OF CASH FLOWS |
|
0 |
-$500000 |
-$500000 |
|
1 |
$160000 |
$141247 |
|
2 |
$160000 |
$124692 |
|
3 |
$160000 |
$110077 |
|
4 |
$160000 |
$97176 |
|
5 |
$50000 |
$26808 |
|
|
NPV |
0 |
|
|
IRR |
13% |
CONCLUSION
In conclusion capital projects play a central role to ensure success of a business project through the analysis of strategies it provides to see the objectives of the company are met. As a result of the high competition from the market field and scarcity of resources, many companies opt to go for long term sustainable budgeting plans that can ensure minimal cost under the principle of economics that says you minimize the cost and maximize profits. the involvement of capital budgeting tools like IVP and IRR have played a key role in enhancing capital projects that lays a fair platform for companies in their service to people and trading according to (Ježek 2016).
References
Cirjevskis, A., & Baduns, E. (2015). Valuing managerial flexibility: an application of real option valuation in time of economic transition. International Journal of Computational Economics and Econometrics, 5(2), 143-163.
de Andrés, P., de Fuente, G., & San Martín, P. (2015). Capital budgeting practices in Spain. BRQ Business Research Quarterly, 18(1), 37-56.
Ježek, J. (2016). Evaluation of the project Pilsen-European Capital of Culture 2015. Journal for Geography/Revija za Geografijo, 11(2).
Macharis, C., & Bernardini, A. (2015). Reviewing the use of Multi-Criteria Decision Analysis for the evaluation of transport projects: Time for a multi-actor approach. Transport policy, 37, 177-186.
Tetiana, H., Karpenko, L. M., Olesia, F. V., Yu, S. I., & Svetlana, D. (2018). Innovative Methods of Performance Evaluation of Energy Efficiency Projects. Academy of Strategic Management Journal.
