Capital Budgeting and Investment Appraisal: The Alpha plc. Case - Coursework Example

Download file to see previous pages However, I will prefer net present value method since it takes into account the cash flows, cost of capital, economic life and the value (wealth) that will be added to the shareholder’s equity. The other methods simply give you a holistic view of the scenario while NPV method is much precise and has fewer shortcomings.
First of all, it is necessary for investment appraisal also to take in account the after-tax cash inflows and any opportunity cost which is forgone during the life of the project. In the above appraisal we ignored the cost of taxes which is an issue of practical concern. In addition to that, it is imperative to take incremental cost or benefits that will arise from the project when evaluating two projects.
Discounted cash flow methods have been given considerable attention in the contemporary world; especially the NPV and IRR method have been extensively used by corporations to evaluate their capital projects. These methods are more time consuming and costly that the other principle techniques such as payback period and accounting rate of return. In United Kingdom, Payback method has been the preferred method for evaluating projects rather than the DCF methods because of its ease of use; a finding which is consistent with the “costly truth” hypothesis (Sangster, 1993).
There are several issues of concern in investment appraisal and each of the appraisal method has its own pitfalls. Net Present Value is often criticized for using an inappropriate discount rate to discount the cash flows which often leads to faulty conclusions. Furthermore, an implicit assumption about NPV method is that cash flows are reinvested at the discount rate which is not a valid assumption. In other words, it implies that the management is assuming that for the economic life of the project, the cash flows can be invested at a rate of return equal to the discount rate. Because in the practical ...Download file to see next pagesRead More