Management Accounting and Financial Management

Management Accounting and Financial Management

Capital Budgeting and Business Financing

Q1. Why is the net present value (NPV) method of investment appraisal considered to be
theoretically superior to other methods that are found in practice?
Q2. Analyse the advantages and disadvantages of using payback period method for
evaluating capital investment proposals.
Q3. A capital investment project requires an investment of €155,000 and has an expected
life of four years. Annual cash inflows at the end of each year are expected to be as
follows:
Year Amount
1 €45,000
2 €55,000
3 €65,000
4 €50,000
(a) What is the payback period? Compute the payback period of the project.
(b) Compute the net present value of the project using an 8 percent discount rate
(use the present value table provided for your calculations).
(c) Would you recommend investing in the above project? Explain why.
Q4. The directors of Mylo Ltd are currently considering two mutually exclusive investment
projects. Both projects are concerned with the purchase of new plant. The following data are
available for each project. The business has an estimated cost of capital of 10 per cent.
Neither project would increase the working capital of the business. The business has
sufficient funds to meet all capital expenditure requirements.
Project
1 2
£000 £000
Cost (immediate outlay) (100) (60)
Expected annual cash flows:
Year 1 60 36
Year 2 30 16
Year 3 40 28
Required:
(a) Calculate the net present value (NPV) for each project.
(b) Calculate the payback period for each project.
(c) State which, if any, of the two investment projects the directors of Mylo Ltd should
accept, and why.

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