Business Decision Making and Judgements

In this report X plc have to make choice from two investment option covering the payback period and NPV and

financial and non-financial factors used to aid decision making.

TASK 1

1. Calculation of the payback period

For Project A

Payback period = 2 years + 2000/12000 * 12 months

= 2 years and 2 months

As the most appropriate and closest value for initial investment will be in 2^nd year.

For Project B

Payback period = 2 years + 5000/17000 * 12 months

= 2 years and 3 months

As the most appropriate and closest value for initial investment will be in 2^nd year.

2. Calculation of NPV

For Project A

NPV = (£ 20000) + £46,588

= £ 26,588

For Project B

NPV = (£ 30000) + £ 59,644

= £ 29, 644

3. Analysis

Importance of Payback period

The actual time taken to recover the total amount invested within an asset from its specific net cash flows is known as payback period (Foster, O'Reilly and Dávila, 2016). It is observed that manager consider this method to determine the risk linked with the actual projected project. There are number of advantages and disadvantages of payback period that is discussed underneath:

Also Read:- Strategic Analysis And Business Planning

Benefits:

• It is simple to use and bring easy understanding to the manager within company. As they need less input and is relatively easier in which actual yearly cash flows are calculated in respect to investments.
• For industries which are unpredictable or undergo technological development shifts, the payback approach is very valuable (Quanyu, Tong and Leonard, 2013). These uncertainty allows the potential annual cash inflows hard to estimate and sometime lead to wrong results thus this method is beneficial.

Drawbacks:

• The payback approach is so straightforward that normal business situations are not considered. Capital investments were not necessarily just one-time investments.
• There is no assurance that a project with either a shorter payback time would be successful. If the proposal's cash flow ceases during the repayment period or falls during the payback time

Importance of Net present value

In general term, the difference among the present worth of cash inflows and the outflows within a specific period of time is known as net present value (Cosgrove and Rijsberman, 2014). It is mainly used by the manager to evaluate the profit margin of a particular proposal. It is regarded that each project that have a positive NPV in the financial term must be pursued by the company that will give positive outcome to respective company.

Benefits:

• The main advantage of NPV is that is includes the consideration of time value of money that how does money value fluctuate during time frame of deflation and inflation (Bogner, 2014).
• It help to compare the actual capability of project in order to earn back the invested amount.
• The estimate takes into account at the time of the expenditure every one of the anticipated cash refunds and payments made and the amount of the money.

Disadvantages:

• This method requires more complicated calculation by using the numeric figures and table which gives multiplier for different time frame and interest rate.
• In this method manager needs of make certain assumption about the cash dealing related with the specific project (Tseng, Chiu and Liang, 2018).

4. Practical Implications

From the above discussion it is clear that payback period and net present value method are both important for determining the favourable investment for a company in respective time period. It help to calculate the actual repayment time taken to recover the invested amount as well as the total amount recovered in that specific period considering the initial investment. In the context of X plc there are two new business proposal such as Project A is £20000 and for project B £30000. The expected rate of return is 10%. For project A the payback period is 2 year and 2 months and the expected net present value in that year will be £26588. similarly on the other side the expected net present value will be £29644 and the pay back period is 2 year 3 month. Thus from the above calculation it has been recommended that new business proposal for project A will be more beneficial for company as it have shorter period to recover the actual investment of £20000.

CONCLUSION

In the end of this report, it has been concluded that business decision-making is the process which includes the assortment of a specific course of action from the two possible option in order to gain the most possible benefit. By using NPV method of capital budgeting manager can calculate the present value of project depending upon the respective discount rate. On the other side the payback period is used to determine the time in order to reach the break even of invested amount.

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