Submitted by: Submitted by dhodhi
Views: 196
Words: 1361
Pages: 6
Category: Business and Industry
Date Submitted: 11/28/2013 09:36 AM
1. Which of the two projects creates more value?
The Match My Doll Clothing Line Expansion project creates more value for the company than the Design Your Own Doll project. To reach this conclusion, I relied on a few tools to compare the two projects.
• Net Present Value
• Internal Rate of Return
• Payback period
• Benefit cost ratio
To run these tools, different discount rates need to be used to capture the time value of money and the risk or uncertainty of the anticipated future cash flows (which might be less than expected). Factors analyzed to arrive at appropriate discount rates included total investment over the 10-year period, new technology required, production complexity, Revenue CAGR assumptions and probabilities of consumer acceptance.
Comparing the levels of risk in the two projects, Match My Doll required less investment over the 10 years ($7.4 million less), its production process was much simpler, there was no risk of proprietary software, and it had lower revenue CAGR (14% versus 22%). I therefore assigned Match My Doll Clothing line expansion project, a discount rate consistent with New Heritage “medium” risk projects – 8.4%. Consequently the Design Your Own Doll was assigned a “High” risk discount rate – 9.0%.
Net Present Value (NPV)
NPV is the difference between the present value of cash inflows and the present value of cash outflows. The discount rate is used to bring back future cash flows to the present. If NPV is positive, Investment creates value.
For the period through 2020, NPV for Match My Doll Clothing Line Expansion project has a NPV of $176,000. By contrast the Design Your Own Doll project has NPV of negative $2.5 million during the same period. If you assume both projects create value indefinitely and treat them as going concerns with perpetual life, using a conservative 2% growth rate on perpetual growth rates, the Match My Doll Clothing Line Expansion project has a NPV of $6.0 million. The Design Your Own Doll Project...