viable or there is the need for termination. Doing phase wise release of funds and the development details is important since the project’s scope can be re-analyzed. The scope of a project is not just about the final outcome that the firm expects to attain; the steps taken along the way also matter. The scope, resources, risks involved and major tasks which need priority can be thoroughly examined and prioritized when the development process is done in phases. According to research, the majority of the projects do fail because there is a tendency to bite off more than what can be chewed; therefore, there is a gross underestimation of time and money. Phase wise release of funds prevents the overlooking of significant work portions. Discuss why the firm might consider passing on the proposal in spite of the tremendous NPV and IRR Ed has calculated? The Internal Rate of Return and the Net Present Value are methods of evaluating long- term investments; their focus is majorly on the cash flows amount and the time period when the cash flows will occur. When the value of the NPV of a project is high it implies that the project is viable. A high NPV means the present value of cash inflows is much more compared to the current value of cash discharges, thus, the firm benefits from the project (DeMeyer, Pich & Loch, 2013). In spite of Ed’s proposal having a high value of IRR and NPV, the firm might consider passing it on due to the substantial amount of investment in the project. The magnitude of the
ED DRAYCUTT ANALYSIS 6 investment is so high, amounting to approximately twenty million. For a small company like Airway, this huge amount of investment might have many negative impacts. If the firm chooses to develop Ed’s analysis, the device will cost approximately twenty million dollars; this is a huge amount that might lead to the termination of the firm in case it is lost. When making decisions about capital budgeting, a judgment needs to be made concerning the manner in which funds will be spent in the process of capital assets procurement. Despite the NPV being high, its calculation requires an assumed discount rate. Also, NPV assumes that the percentage of the discount rate will remain stable all through the project’s life. The firm might pass on the project since this assumption might fail to hold, thus the discount rate might be unstable. The other assumption in using NPV is that that the cash inflows can be reinvested at the same assumed discount rate. In reality, there can be a breakdown of this assumption more so during periods when the rates of interest are fluctuating ( Blocher et al., 2013). Despite IRR appeal rule that there should be no assumption of the discount rate since the investment’s worthiness is exclusively a function of the internal inflows and outflows of that specific investment, this technique does not evaluate the financial implications on a firm. The firm can thus consider passing on the project due to these factors affecting both NPV and IRR and the assumptions made which might fail to hold.
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- Summer '17