Table of Contents

1.0.

Introduction:.................................................................................................... 3

2.0.

The organisation:............................................................................................... 3

3.0.
Types of the capital budgeting decision which is generally followed with more specific to Ar
metal El Aletleri:......................................................................................................... 3
4.0.

Research into existing literature and examples:..........................................................6

5.0.

Conclusion and recommendations:.......................................................................11

6.0.

Post report reflection:....................................................................................... 12

References:............................................................................................................. 13

FINANCIAL ANALYSIS AND MANAGEMENT

1.0.

Introduction:

The following will evaluate the capital appraisal methods and the process that is involved in
making decisions by the different organisation.

This will be explaining the different

investments that could be used and thus helps in the decision of purchasing and investment in
the fixed assets. There are many investment appraisal methods which could be used by the
firm so that either of the method can be used and they can be implemented so that they are
more suitable for the organisation. (Baker, 2011)
2.0.

The organisation:

The organisation that is taken for the assessment is Ar metal El Aletleri. The company is one
of the first tool manufacturers in the country. The company specialises in the tools sector so
that they will use the technology. (Boness, 2004) The export is made for 20 countries so that
the company will provide the service for many of the sectors including automotive, seafaring,
manufacturing and also with the electric industries. The competition conditions change fast
in the world which has the requirement of non stop innovation and development. The
demands and the expectations of customers is one of their priorities. (Clark, 2010)
3.0.

Types of the capital budgeting decision which is generally followed with more
specific to Ar metal El Aletleri:

The Ar metal El Aletleri companys capital budgeting is one of the process which shall
determine the worthiness of the project and the investment which is decided. The analysis
will give more information about the different kinds of the methods which could be used so
that the best projects can be found which will be more profitable for the company. The one of
the best methods which could be followed is the one which will give more significance for
the time value. The most vital feature is that in the cash inflows, the cost for the asset, the
cost which they require for the financing in their asset and also the rate of the return will help
in the compensation of the company which will show the potential errors so that they also
estimate the cash flows which occurs in the future. The following will explain some of the
most popular techniques that are applied in the companies for their evaluation of the different
projects.

Payback period method:

The payback is not among the best methods that could be used for the analysis. This is so
since it does not take into account the time value of the money and also the value of the
money is very vital since the time that is required to take back that money which is invested
must be known well. (Peterson, 2004) The payback period is the length of the time which is
required so that this can be taken back by the company for the recovery of the investment that
they make. Example: If the company had invested 100,000 and it will take 20,000 every
year and then it will take 5 years for their recovery. Thus any of the projects which had less
than 5 years only will be accepted and the one that will exceed this will not be considered.
The payback is the one that will show the time that is required for the recovery of their initial
investment. (Clark, 2010)
When the payback period is shorter then the company will not be able to recover their cash
flows with their cash and also with their investment. The cash and their payback which is
good and also bad are with the criteria for evaluating the projects. There are certain
companies which will follow some guidelines which show certain number of the years like
five or four so that they feel this. The payback must be less so that they lead the life period
which is very much useful. (Baker, 2011)
Net present value: (NPV)
The minimum rate of the return which is incurred from the investment made by the company
can be very well understood from the analysis. The present value of their investment is also
assessed with the cash that is inflowing minus the present value of the cash that is out
flowing. This can be expressed in the formula of NPV = PVB PVC (where PVB = Present
value of the benefits; PVC = present value of the costs). The NPV that is obtained must be
always in the positive only then it will greater than the investment cost which is incurred by
the company. (Boness, 2004) If the result is positive then the company can go ahead and
continue with the project. If the NPV that is obtained has the negative value then the
investment cost which is incurred by the company will be more than the profits that could be
obtained by them which is not good for the company. This shows that in this case the
company must not accept this kind of the project. If the NPV is equal in that case the benefits
that are to be incurred by the company and the amount that they have invested in the business
will be the same. This is the case where the company will be able to reject the project so that

there wont be any point in the investment that they are making so that they get for the equal
amount. This is calculated with the help of the present value tables. (Clark, 2010)
Internal rate of return: (IRR)
The IRR will be using the concept of present value. The IRR will be able to determine the
interest yield that is obtained from the capital project which is proposed so that the net
present value that is calculated will be equal to zero. This is the case where the present value
which is obtained from the cash inflows is equal to the investment which is made. The value
got from the required rate of the return from the company so that project could be accepted.
There are two important steps which have to be followed for obtaining the results of IRR.
First is the calculation of capital investment which is proposed with the help of the annual
cash flow. (Baker, 2011)The vital factor is that the value is obtained from the present value
of annuity table. This is very much helpful so that the life service of the project for a certain
number of the periods can be found out. The discount rate is also considered as remarkable
factor which is considered more close to the IRR. (Clark, 2010)
Example: In the project if they are to invest for the new machinery then they see that the cash
inflows is 10,000 through 10 years and the investment that is made for the project will be
100,000 the value for this is calculated with (100,000/10,000). The 10 is obtained as the
present value and the value for this period can be calculated at the cost of 15%. (Clark, 2010)
Annual rate of return: (ARR)
The methods that are used for analysis in the Payback, NPV, and IRR are done with the form
of cash flows. The accrual based net income method could be used for finding out the
profitability of the project. The annual rate of the return value that is then assessed and
compared with the required rate of return by the company and if the company is satisfied with
the required rate of the return then they will make sure that this is done. If they are not
satisfied then the project will be rejected. (Baker, 2011)The higher the rate of the return then
the project will be ranked in the higher and the high ranked projects will be selected. The
ARR is the return percentage which is calculated so that the division with the expected
annual net income with the average investment is also found out. The average investment is
calculated normally in the form of adding the beginning and the ending values of the cash
flows and then they are divided with 2. (Boness, 2004)

The formula for the calculation is

Annual rate of return = Estimated Annual Net Income
Average investment
4.0.

Research into existing literature and examples:

The decision for the investment is made from the consideration of certain circumstances. The
decision rule will consider certain inputs. The value decision and their efficacy are
completely with the factors that are measure. The estimation of cash flow would require the
analysis of the project with all the external and the internal factors and the better
understanding before the implementation. This shows the vitality of the macro and the micro
environment analysis. The life cycle with the project is very vital to make sure the estimation
of the survival. (Clark, 2010)The cost of the capital is the vital one and the discounting factor
which is undergone over years. The cost of capital will also have the different kinds of the
suggestion with the different philosophies. This will help in the determination in the cost of
the capital shows that there is lot of impact in evaluating the investment that is made. (Baker,
2011)
There are many kinds of the methods which will help in making the decision with respect to
the capital budgeting process so that the investment evaluation from their economic viability
view shows the maximisation of the wealth of shareholders. The decisive factor which are to
be followed before accepting and rejecting the projects are with the cash flows which should
be able to provide the objective and also the unambiguous way for the separation of the good
ones from the bad ones. This helps in the ranking of the projects depending on their
profitability. (Baker, 2011)This will be able to recognise that the cash flows are more
preferable than smaller ones which will show that the earlier the cash flows are accepted than
the later cash flows. The projects that are mutually exclusive in nature will help in the
maximisation of shareholders wealth. This is a factor which is applied in the investments
which are independent of other factors. (Peterson, 2004)
The capital budgeting is classified into discounted cash flows and non discounted cash flows.
The non discounted cash flows are the ones which will include the payback and accounting
rate of the return. In discounted cash flows they are more inclusive of internal rate of return
and also the net present value. The non discounted cash flow is more so classified into the
traditional cash flow and they are not included in the companies since they do not consider

the value of the money flows and the time value of the money which takes the risk factor that
the company is facing in the future. This is since it has the ability to make alteration in the
cash inflows. (Baker, 2011)
Capital budgeting techniques under uncertainty period:
This shows the chances of the risk in the actual outcome and this will have a difference from
expected outcome. This is the uncertainty which is linked with the situation that has the
different range of the outcome that is possible. There are two different terms which is used in
the finance literature so that investment appraisal the managers are more concerned with the
evaluation of their riskiness and their cash flows of project. (Baker, 2011) This is very vital
for the cash flow evaluation so that the projects are different from which they are concerned.
The NPV is negative this will prove that IRR is less than the cost of capital. The process of
the risk management itself is very much risky and the manager will have the good knowledge
of how to manage the risk must be assessed with the different kinds of the outcomes that is
possible. The most important measure in the risk is considered to be the standards deviation
and this is different from the co efficient of these variations. There are three types of risks
and they are (Peterson, 2004)
Stand alone risk: The risk in the project is measured here so this risk alone is considered
and the risk that it will deliver for the entire organisation is not considered. This is separate
here.
Corporate risk: This is considered as the overall risk that is undertaken by the company
which is viewed in the portfolio form and thus all the other investment projects are
considered here.
Market risk: This is the kind of the risk viewed from point of shareholders and investors.
The market risk is one of the most significant factors so that the position of the stock in the
market and the risk that the firm will have can be calculate with the beta value and also with
the share price of the firm. (Baker, 2011)
There are also many practical difficulties which the firm has in the measuring the corporate
and also the market risk. The stand alone risk is accepted the most and is a substitute for
market and also the corporate risk. The following mentioned are some of the techniques for
the measurement of dealing with risk which will arise from the capital investment. They are
measured as (Clark, 2010)

Probability assignment
The expectation that is there in the net present value
Standard deviation
Co-efficient of variation
Probability distribution approach
Normal probability distribution

The company is considering the NPV, IRR and other method with the use of the computer
analysis like the simulation and others. In the present chapter the NPV and the IRR alone
will be discussed and how well they are made use by the company. The future of the cash
flow is very vital and this makes consideration of these methods by the company. The
earnings per share for the company will also be taken into consideration which will make
more focus which is incorrect at their expenditure in the cash flow. The pay back is
considered very much popular since this gives the full understanding of how they are able to
receive the cash flows from the project that they receive which they will be able to make an
investment in their projects. (Boness, 2004)The IRR and also the NPV is more related so that
they use the time value of the money and the risk also which is to be considered. The NPV
will account more for risk and they also use the risk adjusted discounted rate with the IRR
must be used with the risk adjusted rate and the adjusted hurdle rate which is against can be
compared with the project so that they can reject and also accept the decision which is made.
(Peterson, 2004)
The net annual cash flows will be considered very much different so that the cumulative
annual cash flows could be used for the determination of the payback period. Example:
Year
0
1
2
3
4
5
6

Expected cash Flows

(200,000)
80,000
40,000
30,000
30,000
10,000
20,000

Cumulative cash flows

(200,000)
120,000
80,000
50,000
20,000
30,000
50,000

The e example will show that the period that starts from the 4 th years so that this is the time
period from which they will start getting more payback from the amount that they are
investing. The calculation is also very much easy since they are not used in the real life
projects and other criteria and they also need to be considered. The IRR is used in the case of

the projects that are mutually exclusive. (Baker, 2011)This will have the set of the cash flows
that could be subtracted from the set so that they enable them in finding the IRR which will
give the particular project which will have the representation of the cash flows. The project
that has the non conventional cash flows could accept the project so that this hurdle will
exceed the IRR. This is the case of the mutually exclusive projects so that the NPV method it
helps in the dealing of projects so that they help in the maximisation of the wealth. (Clark,
2010)
The main advantage is the discounted cash flow techniques where they considered the cash
flows, the time value of the money are some of the risk which is involved in the future of the
cash flows. This is one of the vital and the important decision which explains more about the
project, their wealth and thus this will not give more profits. The discounted cash flow is also
an important evaluation for the investment so that the answers will help in the determination
of the technique for the purpose of the investment. This will be able to analyse
Cash outflows
Cost included for the 2,50,000

Cash inflows
Cash received from 3,50,000

project
Operating

the customers
Salvage value

costs 100,000

incurred
Estimated life
5 years
Minimum required 10%
rate of return
Annual Net

cash 50,000

flows ( 250,000 -
200,000) (1) (2)

Present Value of the cash flow

Annual cash flow
Salvage value ( 5,000 X .4523)
Total Present value of net cash flows
Less: cost for the investment
Net present Value

328,190
2261.5
330451.5
(150,000)
180,451.5

5,000

The net cash flows cannot be considered to be same at all the time this is since the
calculation which they make for the each period is considered here. The financial calculator
and also the spreadsheet can also be used here so that the present value can be calculated. In
most companies they use the rate of the return which is the cost of the capital. There are also
many funds which can be obtained from the creditors and also the investors. The companies
will also be able to make use of their profitability index so that this helps them to decide how
they need to choose on this basis. (Baker, 2011)

To understand whether the projects are in the mutually exclusive or whether they are

independent of each other?

To also know whether the projects are subjected for the capital rationing?
Do the projects have the same kind of the risk?
The project does have the same scale in their investment?

This is the case where the projects will be independent so that they are subjected for the
capital rationing and helps to determine the wealth with the basis of discounted cash flow.
The projects will also help so that they will be mutually exclusive in their nature with the
same kind risk which is used by NPV and also MIRR techniques with the project
determination so that they could maximise the wealth. The IRR is also one of the vital
popular techniques will also assist so that they will be able to understand the profitability in
the project. This helps in the replacement of the IRR. (Boness, 2004)
Example: If the company is expecting annual net income of 7,000 so that the investment
amount will be 200,000 then the salvage value will be 3,000. This gives the average value
of ARR is 6.89% (7000 / 101500). The ARR is thus not used in the making of capital
budgeting decisions so that the results will be obtained with the misleading with the accrual
basis in the accounting and not with the actual cash flows and also with the time value of
money.

The main advantage is that in the case of the discounted cash flows they will

consider all the types of the cash flows and also the time value of money. The risk that is
included in the future cash flows will be useful so that they apply the decision criteria of the
weal and this will not give the profits for the company. The payback is also something that
can be revised with this yield of measure. (Baker, 2011)
5.0.

Conclusion and recommendations:

The assignment will make use of their techniques so that their capital budgeting will have the
assumption with the certainty and also their uncertainty which shall be discussed. This is

very vital to show the weakness and also the strength of the business or the project that they
are undertaking. The decision that is made with the investment will make the managers to
see many vital issues like the cash inflows that could be received by the company, the
dividends that are issued by the company and also with the survival for the company. The
managers must also show the expertise that enables them to say that project is undertaken
with the positive NPV. This is also difficult for quantification in their approach which is
often done and helps in the estimation of whether the project is profitable.
The techniques of capital budgeting will make them to have more informed judgements with
more vigilance so that the selection of the project and their approval will not become a loss in
the ever changing technological and also the economic change. The methods of the computer
based simulation are also useful in some manner. The techniques like RO will also helps in
rewarding the flexibility so that they shall not replace the standard techniques that are being
used. This will help in the expansion and making the improvement in the strategic valuation.
There is also many virtual so that their capital budgeting methods which is assessed by the
computer and they are very easy for the calculation and they makes the measurement with the
decision so that they provide the decision with the different piece of information.
It is also advisable that the company must be using the more relevant cash flows since the
finance manager will be applying the techniques that are used for assessment so that the
project will create more value with the shareholders. The NPV will be more theoretically
preferred approach so that the IRR is more in use. The procedures that are used for the
recognition of the real options are embedded with the capital projects and also the procedures
which help in the selection of profitable projects which is under the capital rationing. This
will help the manager for the refinement of the capital budgeting process in the further
process. This helps in the learning of all budget projects at the same risk level which exists in
all portfolios. The risk that is adjusted is also a kind of the mechanism so that they use this in
discount rate where the manner is considered more consistent with the risk and also the return
with the preferences so that they accept the value for the creation of projects.
6.0.

Post report reflection:

The capital analysis budgeting gives the idea of all the different ways in which the company
is making the assessment with both the discounted cash flows and also non discounted cash
flows which use the traditional and the modern methods for the finding out the best project
that is profitable. The traditional methods will have lots of drawback so that they cannot be

relied upon since the company that is used in this assessment. The assessment will rely with
the NPV and also IRR is used so that cash flows, time value money and risk that happen in
future is more successful. The method cannot be completely relied upon as they do not have
the market and the external risk factor. I also did much research in other methods like the
CPM, PERT where the modern computer application methods are used in the assessment so
that the real time information with the research is also done.
There are many methods which are available for the completion of the research but they
cannot be relied upon completely. This will make the change in the project so that there are
unexpected changes which will have an impact in their way. The condition of the economy
will also improve which will either help the company in making the profit and also losses.
Thus the company must be taking the right decision which will help in making an
improvement in their functioning. This will also help the company to adapt themselves to the
different situations and the changes in the environment so that they yield more profit.

References:
Baker, H. K. (2011). Capital Budgeting Valuation: Financial Analysis for Today's
Investment Projects. London: John Wiley & Sons.

Boness, A. J. (2004). Capital budgeting: the public and private sectors. London:
Praeger.

Clark, J. J. (2010). Capital budgeting: planning and control of capital expenditures.

London: Prentice Hall.

Peterson, P. P. (2004). Practice, Capital Budgeting: Theory and practice. London: John
Wiley & Sons.