Analysis of Investment Project - Coursework Example

Investment Appraisal Instructor’s Name: Course Code: Student’s name: Institution’s Name Submission Date Introduction Investment decision is very important in the organization. The investors must have full financial information about the project they want to invest in (Hilton & Sainty, 2001). This kind of information will help them conduct financial appraisal such as net present value, accounting rate of return, payback period and internal rate of return. Through these they will be able to identify the investment project which is able to produce high investment returns. In forecasting it is also appropriate to use bass model to determine whether the product introduced in the market is able to meet the market demand. A -Net present Value This is a very important project evaluation process which can be used to determine if the investment portfolio is viable. It is able to give decision criteria and rank different projects according to their viability. This project appraisal technique uses all the cash flow of the project and also considers time value of money therefore it is able to help investors make important investment decisions. The computation of this investment evaluation method, it is important to have the rate of return which is known by all the investors. Cash flow schedule Year 2014 2015 2016 2017 2018 Revenues 0 22,000 50,000 54,000 60,000 Marketing costs 5000 10,000 5,000 5,000 2,000 Production cost 15,000 12,000 12,000 15,000 15,000 Total cost 15,000 22,000 17,000 20,000 17,000 EBIDT (15,000) 0 33,000 34,000 43,000 Less interest 4.5% 4.5% 4.5% 4.5% 4.5% - - 1485 1530 1935 EBDT (15,000) 0 31515 32469 41065 Net cash flow (15,000) 0 31515 32469 41065 PVIF, 5 year 10% 0.909 0.826 0.751 0.683 0.621 PV (13635) 0 23667.80 22176.30 25501.40 TOTAL £57,710.50 Initial cash outlay (£30,000) Net present Value £27,710.50 Decision Criteria The project is viable since the net present value is more than zero hence the project is viable B- Estimated payback period Payback period is the expected number of years needed to recover the investment cost. This is a traditional method of project appraisal which does not utilize all the cash flow of the project (Hilton & Sainty, 2001). It also does not consider time value of money hence is not the best method of evaluation. Years Cash flow Accumulated cash flow 2014 (13635) (13635) 2015 0 (13635) 2016 23667.80 10032.80 2017 22176.30 32209.10 The payback period is 4 years Decision Criteria The project is viable but it takes a longer time to recover the investment cost C- Accounting rate of Return (ARR). This is also a traditional method of project appraisal which uses accounting information as indicated by the income statement to measure the profitability of the investment project (Achrol, 2000). This method is able to give a decision criteria but the problem it has is that it ignores time value of money and also uses accounting profits which is affected by accounting policies and standards. Average accounting profits (15,000) +0+31515+32469+41065=90049/5 =18009.80 Average investment = 30,000 Average rate of return = 18009.80/30,000 = 60% Decision Criteria The project should be accepted since ARR is higher that the average rate of return expected by the management. D- Is the project investment worthwhile? The knowledge of risks which is likely to affect the profitability or investment returns will helps the decision makers to determine ways of mitigating potential risk which may cause fluctuation in investment returns. They will therefore make decision which reflects the effect of risk which has been determined by the company. Justification of the viability of the project This investment project is very viable since it is able to produce high investment returns in future. Its viability is determined by computing net present value where it is found that the project has a net present value which is more than zero indicating that the project is able to payback the cost of investment in the future (Burke and Steensma, 2007). The accounting rate of return of this project is also vey high as shown above. This indicates that the profitability of the company is high showing its potential to produce good returns to investors (Atkinson and Banker, 2001). The project also has high potential to pay back its cash outlay within a short time as a result it can be taken to be a viable project. Bass Model This is a model which uses simple differential equation that defines the steps in which newly introduced product is chosen by the population. It shows how the current and potential users of a new product interact (Achrol, 2000). This model is used in forecasting and helps companies to forecast future sales. The adopters are called innovators and the velocity or the period of adoption depends on the arte of creativity and the level of imitation (Hilton & Sainty, 2001). The coefficient p is used to refer to the coefficient of innovation while coefficient q reflects the coefficient of imitation and T represents time in years (Burke and Steensma, 2007). This project conforms to the bas model because it has the adaptor and the imitator. In this project total market size is 150,000 units, p which represent coefficient of innovation is 0.018119 and q = 0.3145. The initial value for sales was set to be 2000 units which are able to produce a maximum sales rate of 2857.14 and peak time would be 7.7639. The mean sales from the initial to peak is estimated to be 19871 4 - If you have new product innovation, which is plausible but not technologically feasible at the present time. 1 Potential market Potential market where this new product should be sold is in large cities where there is high population to buy this product. It can also distribute this product to different distribution channels or chains where customers can easily get in touch with the product. 2 Produce a marketing strategy suitable for the innovative product The best marketing strategies for the new products is the use of digital media and television to reach many customers within a short time (Burke and Steensma, 2007). The company can advertise its products through sales promotions where it communicates well about the product. This will help different customers to have knowledge about the product. 3 Identify potential risks The potential risk which can face the sale of new product is change in market demand (Hilton & Sainty, 2001). This change can make the product price to reduce which generally reduce the profitability of the company. There is also a potential risk of fluctuation of commodity price which is a component of sale revenues. When there is a negative change in product price the sales revenue will reduce hence reduce company profitability (Achrol, 2000). There is also financial risk which the company is likely to face. These include increase in inflation, change in interest rates and change in weather condition (Burke and Steensma, 2007). These factors can make the product to lose market. 4 Based on your research of similar products, estimate Bass model parameters for your product, and estimate time of peak sales In this model there are only three parameters which includes Market price elasticity This is a parameter which shows a responsive change in price as a result of change in market demand of the new product of the potential of the market. The advertising coefficient This is also a very important parameter which is responsible for affecting the strengths of the change in the rate of advertisement in diffusion product (Achrol, 2000). Price Coefficient This is a parameter has a strong impact on the strength on the change in price in product diffusion.  5 You can make you own assumption as long as they are reasonable and clearly stated. It is important to assume that the introduction part of it should follow bass curve. It is also assumed that bass curve must have three parameters for the data to fit closely as possible. There is also an assumption that the rate of sales of the commodity cannot be affected by the marketing mix such as price, product and promotion (Abernethy and Brownell, 2003). Final assumption is that the sales rate of a product in the target market segment face great effect by the level of advertisement for newly introduced products in the market and the price of the same product. Conclusion Decision making process is easy when there is relevant information to use in predicting future result. In relation to this report it is possible to use investment appraisal technique because there are annual cash flows. In relation to the information above, it is necessary to conclude that this investment project is viable since it has a positive net present value showing that it is viable and able to produce good investment returns in the future. Bibliography Abernethy, M.and Brownell, P.2003. The Role of Budgets in Organizations Facing Strategic Change: An Exploratory Study, in: Accounting, Organizations and Society, Volume 24, pp. 189-204. Achrol, R. 2000. The Dimensions of Marketing Channel Environments, Advances in Channel Research, Volume 1, pp. 1-43. Atkinson, A. and Banker, R. 2001. Management Accounting, 3rd edition, Uppler Saddle River, New Jersey. Burke, L. A.and Steensma, H. 2007. Toward a Model for Relating Executive Career Experi- ences and Firm Performance, in: Journal of Managerial Issues, Volume 10, pp. 86-102 Hilton, R. & Sainty, G. 2001. Cost Management:Strategies for Business Decisions, 1st Canadian Edition, McGraw-Hill.Vol 2 pp456. Read More