FINANCIAL ASSIGNMENT

Financial assignment

Evaluation of project1

Payback period1

Pros1

Cons1

Discounted payback period2

Pros3

Cons3

Net Present Value (NPV)4

Pros4

Cons4

Internal Rate of Return (IRR)5

Pros6

Cons6

Breakeven analysis7

Variable cost8

Fixed cost8

Evaluation of breakeven analysis11

Financial ratios11

Profitability ratios12

Liquidity ratios12

Activity ratios13

Debt ratios13

Sources of financing14

Debt financing14

Equity financing15

Role of budgeting in planning and controlling15

References17

Section A

Evaluation of project

In current environment, where competition is at its peak a firm seeking for similar opportunities finds it difficult to attain. However, capital financing projects can be categorized into three broader categories. First a capital project can be related to revenue enhancement. Secondly a capital project is categorized in cost reducing investments. Lastly, a capital project is considered when there is mandate by government or other bodies.

Payback period

Payback period refers to capital budgeting concept in which period is calculated that recover the original investment of the project. There are few advantages of payback period and certain disadvantages too.

Pros

Advantage of payback period are; it is easy to use and one can apply payback period with minimal financial knowledge, and it give a business a time frame in which its project will be recovering its original investment (Gropelli & Nikbakht, 2006, pp. 158-159).

Cons

Disadvantage of payback period includes as payback period cannot provide the clear picture as it does not includes the factor of time value of money. Also, payback period is concerned with the recovery of initial investment of the project and does not account the future returns. It also does not provide complete decision criteria for the firm regarding the value enhancement to firm (Gropelli & Nikbakht, 2006, pp. 158-159).

Below is the payback period for the project of Pearson Ltd. is as follows:

Period

Description

Amount

Payback period

0

Cash Outflow

-£ 200,000.00

1

Inflows

£ 65,000.00

1

2

£ 65,000.00

2

3

£ 65,000.00

3

4

£ 65,000.00

0.08

Payback period

3.08 Years

The Pearson Ltd. is recovering its cost in 3.08 Years. Values for cash inflows are generated by subtracting the operations cost from the inflow during the period. In last inflow it is assumed that machine is not sold and last inflow is also same. As the disadvantages of payback method the factor of present value of money is not evaluated in this method. On the other side it is just evaluating the period in which initial cost is recovered. The project benefits after the recovery period is not evaluated.

Discounted payback period

Discounted payback period is similar to payback period except it takes present value of cash flows rather than future values as used in payback method.

Pros

Advantages of discounted payback period is that in discounted payback period time value for money is considered while evaluating capital budgeting project and also involves cost of capital which considers the risk factor also (Megginson & Smart, 2008, pp. 334-335).

Cons

However, there are disadvantages too as discounted payback period it does not provide concrete decision criteria for firm regarding value enhancement of the firm. It also ignores future cash flows after payback period. The cost of capital used to consider risk is an estimate value (Megginson & Smart, 2008, pp. 334-335).

After evaluating the same project with discounted payback period below results are ...