The Dilemma at Day-Pro

3. Compare the two sets of calculations and the corresponding NPVs. How and why do they differ? Which approach should Ariel's financial analyst use?

To make the most informed decision the IRRs and payback periods of the projects should be compared in conjunction with the NPVs of the two projects. The NPV analysis of the two projects under consideration indicates that the MMDC Project is the better of the two projects.

Finally, in order to complete a more accurate comparison between the two projects, we utilized the EANPV as the deciding factor. Under current accepted financial practice, NPV is generally considered the most accurate method of predicting the performance of a potential project. The duration of the projects is different, one lasts four years and one lasts six years. To account for the variation in time frames for the projects and to further refine our selection we calculated the EANPV to compare performance on a yearly basis.

2. Net Present Value – Secondly, Peter needs to investigate the Net Present Value (NPV) of each project scenario, i.e. job type, gross margin, and # new diamonds drills purchased. The NPV will measure the variance of the present value of cash outflow (drilling equipment investment) versus the future value of cash inflows (future profits), at the benchmark hurdle rate of 20%. A positive NPV associated with the investment means that the investment should be undertaken as it exceeds the minimum rate of return. A higher NPV determines which project scenario will have the highest return on cash flow, hence determining the most profitable investment in terms of present money value.

This memo has been constructed for the purpose of reporting information the president of the company in reflection the purchasing of a supplier in the near future. It reflects information concerning Calculate Net Present (NPV), Internal Rate of Return (IRR), along with the payback of the investment opportunity. In this company memo the following information will be discussed:

7) See Table 1 NPV=42,318.71 IRR = 14% MIRR = 12% Payback period= 2.93 years. Yes the project should be undertaken.

Based on information given, we established the free cash flows from operations for Torrington, for the period 1999 to 2007. We made the assumption that net working capital was 7% of sales for Torrington, based on historic patterns. From this assumption, we found “Change in Net Working Capital” for the selected years. Next, we chose a value for “Capital Expenditures”, again based on historic patterns. From this we computed the “Free Cash Flows to the Firm”.

Thus, by year three the company will be making a profit off the investment as year three is 86.73 million profit by 55.35 cost giving the company a 31.38 million dollar surplus. Generally, a period of payback of three year or less is acceptable (Reference Entry) causing this project to be viable based off the payback analysis. Although, these calculations are flawed. The reason for this is because the time value of money is not taken into effect when calculating payback periods which is where IRR can further assist in a more realistic financial picture (Reference Entry).

The company should accept this project. The project payback period is between 2 to 3 years.

Also this cashflows also depend on the financing alternative we choose. In this case I used the Industrial Revenue Bond.

The present value of all these cash inflows and outflows can be calculated by discounting them at 12.19%. This rate is calculated by assuming that the purchasing power parity holds in this scenario. The company can do the feasibility analysis by looking at both from the subsidiary’s and parent’s perspective by assuming that the purchasing power parity holds. Hence, this rate can be regarded as opportunity cost of investment because it is the second best alternative for the company for investment purposes.

Financial risks include the short payback period. A 3-year payback period would not allow Hansson the opportunity to breakeven. With a negative NPV in the first 3 years Hansson’s decision to invest in the project would be based on his ability to negotiate a longer contract time. The Net Present Value (NPV) would have to be examined in tandem with the other non-financial variables.

In my opinion the company should reject the project as the ARR is much less than expected and the payback period is nearly as long as the maximum payback period which could put company to danger.

The use of an accounting rate of return also underscores a project 's true future profitability because returns are calculated from accounting statements that list items at book or historical values and are, thus, backward-looking. According to the ARR, cash flows are positive due to the way the return has been tabulated with regard to returns on funds employed. The Payback Period technique also reflects that the project is positive and that initial expenses will be retrieved in approximately 7 years. However, the Payback method treats all cash flows as if they are received in the same period, i.e. cash flows in period 2 are treated the same as cash flows received in period 8. Clearly, it ignores the time value of money and is not the best method employed. Conversely, the IRR and NPV methods reflect that The Super Project is unattractive. IRR calculated is less then the 10% cost of capital (tax tabulated was 48%). NPV calculations were also negative. We accept the NPV method as the optimal capital budgeting technique and use its outcome to provide the overall evidence for our final decision on The Super Project. In this case IRR provided the same rejection result; therefore, it too proved its usefulness. Despite that, IRR is not the most favorable method because it can provide false results in the case where multiple negative

is only three years. Second; the payback period for the project A is 3 years and for G