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Case Study 03092 - Essay Example

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Financial managers are required to carefully assess different projects and capital assets before making investments in the same. The current project incorporates analysing the manner in…
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Case Study 03092
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Download file to see previous pages NENE limited is considering investing in one of the two mutually exclusive projects, Alpha and Beta. The investment decision would be taken on the basis of capital budgeting techniques. The calculations in respect of payback period, accounting rate of return (ARR) and net present value (NPV) carried out for both the projects are as follows:
Based on the capital budgeting calculations carried out in respect of Alpha and Beta, it can be seen the returns available from Alpha are more acceptable and profitable. In terms of the payback period, the company with the lower period is accepted. This would signify that the project would be able to cover their initial cost of investment within a shorter duration and begin providing profits (Shapiro, 2005). Accordingly, Alpha is considered to be a better project. In case of other techniques used, the project with higher ARR and higher NPV is required to be chosen as they indicate higher returns. In this respect, project Alpha is seen to be better. Hence, the company must consider choosing Alpha and invest in the same (Atrill and McLaney, 2006).
Accounting rate of return can be expressed as the percentage or ratio between the average profit earned from a project with the average investments made in the same. In simpler words, it explains the returns available from a project on an annual basis. In case of mutually exclusive projects, the one with the higher ARR has greater chances of being selected. In case of a single project, higher ARR would indicate that the project would add more value to the organization (Marino and Matsusaka, 2005). The ARR technique of capital budgeting is simple and involves less calculations (Bierman Jr and Smidt, 2012).
However, a major disadvantage of the ARR method of project appraisal is that it does not take into consideration the time value of money. A project which ...Download file to see next pagesRead More
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