Investment Appraisal and Project Management

Investment Appraisal Methods: Payback, ROCE, and NPV

Part A of the assessment is compulsory for all students with a marking allocation of 50% awarded within this element.

Part B of the assessment is compulsory for all students with a marking allocation of 50% awarded within this element. The assignment has been designed to cover the following learning outcomes associated with successful completion of the module:

Knowledge

K1. Critical understanding of the key strategic decisions that a business may have to make and appreciated how accounting and finance can assist in making and evaluating those decisions.

K2. Critical understanding of specific analytical skills in key decision areas within strategy and finance relating to Ratios and Investment Projects.

K3. That they can appreciate the requirements for management control and the application of project control processes

K4. A critical understanding of the relationship between, cost and quality in achieving project objectives

Skills

S1. Competence in applying the key valuation concepts and methodologies of financial decision making inorder to contribute to the wider decision making of the organisation

S2. Their capability to evaluate projects from a financial, human resource and time related perspective

Question 1 KK Smith (25%)

The finance manager of KK Smith & Sons plc is evaluating two mutually exclusive projects with the following cash flows.

The company’s current return on capital employed is 12 per cent (average investment basis) and the company uses straight-line depreciation over the life of the project.

Required:

(1) Advise KK Smith & Sons which project should be undertaken using:

(i) the payback method of investment appraisal:13

(ii) the return on capital employed (ROCE) method of investment appraisal:

(iii) the net present value method of investment appraisal. (16%)

Critically assess and discuss the problems that arise for the net present value method of investment appraisal when capital is limited, and explain how such problems may be resolved in practice.

Question 3 Concrete Masonry Corporation (50%)

The Concrete Masonry Corporation designs and manufactures pre-stressed concrete for the building Industry for years; the company enjoyed a stable marketplace and a relatively predictable business environment. Although there had been a boom in residential construction in recent years, commercial work was on the decline. As a result, all the pre-stressed concrete manufacturers were going further afield to big jobs. In order to survive, Concrete Masonry Corporation was forced to bid on jobs previously thought to be out of their geographical area. Survival depended upon staying competitive. However with the declining conditions of the market and the evolution that had drastically changed the character of the market place, the Concrete Masonry Corporation previously successful approach was now in question.

Challenges of the NPV Method with Limited Capital

With the removal of trade barriers and other Globalized international trade agreements, the Concrete Masonry Corporation found itself competing with other pre-stressed manufacturers headquartered in countries around the world. A decision was then made to transfer several manufacturing machines to a new site in Eastern Europe to allow more agility and efficiency within their manufacturing supply.

The Project

The project was to include the transfer of 8 industrial pre-stressed concrete assembly machines, along with ancillary equipment into Eastern Europe (Poland). Scheduling the project had to take six months from end of September before production must start on April to supply potential customers. A site had been selected although the appointed Project Manager and potential team members had not visited the area, nor did they understand the weather conditions of wind, rain and snow that prevailed in this area. The assembly machines were to be transported by sea and then road haulage before arriving at the new site. Road infrastructure was again an area that required attention.

Kevin Lewis

Kevin Lewis has been appointed as the Project manager for this installation transfer. He is a 29-year-old graduate of a well known University in the UK with a B.S.degree in Mechanical Engineering. After graduation, he worked for five years in Engineering Design Industries. Although he took a significant pay cut, he jumped at the opportunity to return to his home location with Concrete Masonry Corporation. His job in Engineering Industries had been very demanding. The long hours and extensive travelling had created tension in his marriage. He was looking forward to a normal job with reasonable hours, or so he thought. While working in Engineering Design Industries, Lewis worked on projects and installed new Engineeringdesigns. He was confident that he had the requisite technical expertise to excel at his new job with the Concrete Masonry Corporation.

The Team

Lewis had a part-time team of five assistants on placement from the departments within Concrete Masonry Corporation. At first, he was not sure how freely he could delegate work to the assistants bearing in mind they also reported to other managers within the organisation. He quickly realised that they were all very bright, competent workers who were anxious to leverage this project experience into a lucrative career. The project transfer has an investment of £900,000 pounds and is scheduled to take 6 months to complete; taking into account, the project would be completed during the winter which would be difficult. Lewis and his team would first need to visit the new location and start to consider the project activities.