Business Project

A Managerial Approach

Project Selection
 Project Selection
• Project selection is the process of evaluating
individual projects or groups of projects, and then
choosing to implement some set of them so that the
objectives of the parent organization will be
achieved
• Models represent the problem’s structure and can
be useful in selecting and evaluating projects

Chapter 2-1
 Project Selection Models
– 2 Basic Types of Models
• Numeric
– Financial tools
– Scoring method
» Unweighted 0-1 Factor Model
» Unweighted Factor Scoring Model
» Weighted Factor Scoring Model

• Nonnumeric
– Two Critical Facts:
• Models do not make decisions - People do!
• All models, however sophisticated, are only partial
representations of the reality the are meant to reflect

Chapter 2-3
Criteria for Project Selection Models

• Realism - reality of manager’s decision

• Capability- able to simulate different scenarios and optimize the decision
• Flexibility - provide valid results within the range of conditions
• Ease of Use - reasonably convenient, easy execution, and easily
understood
• Cost - Data gathering and modeling costs should be low relative to the
cost of the project
• Easy Computerization - must be easy and convenient to gather, store and
manipulate data in the model

Chapter 2-2
Project Selection
 Nonnumeric Models
• Sacred Cow - project is suggested by a senior and powerful official in
the organization
• Operating Necessity - the project is required to keep the system
running
• Competitive Necessity - project is necessary to sustain a competitive
position
• Product Line Extension - projects are judged on how they fit with
current product line, fill a gap, strengthen a weak link, or extend the line
in a new desirable way.
• Comparative Benefit Model - several projects are considered and
the one with the most benefit to the firm is selected – Q SORT METHOD

Chapter 2-4
Numeric Models: Profit/Profitability
– Payback period – Time needed to cover initial investment.
– Average Rate of Return - average annual profit/average
investment
– Discounted Cash Flow - Net Present Value Method
– Internal Rate of Return - Finds rate of return that equates
present value of inflows and outflows
– Profitability Index – ratio of all discounted future expected cash
flows/initial cash investment
 Project Management

Comparing Projects With Unequal Lives

•Two projects with unequal lives need to compare by
replacement chain approach

Net Cash Flow($)

Year Project C Project F
0 -40000 -20000
1 8000 7000
2 14000 13000
3 13000 12000
4 12000 10000
5 11000 17000
6 12000 12000
 Project Management

Project S
Year 0 1 2 3 4
Cash flow -1000.00 500.00 400.00 300.00 100.00
Project L
Year 0 1 2 3 4
Cash flow -1000.00 100.00 300.00 400.00 600.00

•Which project is better or financially attractive (By

Using IRR)?
•Which project is better or financially attractive (By
Using NPV)?
 Project Management

A six-year financial project has cash flow given

below:
Year Inflow Outflow
2002 0 $90,000
2003 30,000 0
2004 25,000 10,000
2005 25,000 0
2006 30,000 5,000
2007 40,000 0

* t = 0 at the beginning of 2002

i) Find the net cash flow for every year.

ii) If interest rate is 12% and expected rate of
inflation is 3 percent, Calculate the NPV & IRR for
this project. Is the project feasible?
 Project Management

1. In a project proposal it is considered that net income for

the next 5 years is 50, 50, 80, 80 & 90 thousand dollar.
Initial Investment is 150 thousand and a capacity increase
need to invest 50 thousand in the 3rd year. If inflation
rate is 4% and interest rate is 11% then calculate NPV
and IRR. Is the project feasible?
2. In a project proposal it is considered that net income for
the next 5 years is 30, 30, 35, 60 & 60 thousand dollar.
Initial Investment is 100 thousand and a capacity increase
need to invest 30 thousand in the 4th year. . If inflation
rate is 3% and interest rate is 12% then calculate
NPV and IRR. Is the project feasible?
 Evaluate
• ABC Pharmaceuticals is considering a project of implementing
a marketing software package. The project proposal
estimates: $125,000 to be paid to the software firm, $100,000
to modify and $90000 to integrate. Installation and
implementation should take 1 year each but each second
year software update will require $15000 beginning in fourth
year. Profit resulting from sales information is estimated to be
50000 in the first year of operation, then 120000, 115000,
105000,97000, 90000, 82000, 65000,35000. The hurdle rate is
12% and Inflation rate is 3%
 Practice
A four year financial project has net cash flow of
20000, 25000, 30,000 and
50000.Implementation cost is $75000.
Required rate of return is 0.2. Calculate
profitability index
 Project Management
XYZ Company wants to setup a factory to manufacture new type consumer goods. The company
hardly can invest 450 million taka. Net profit margin is forecasted to 15% of the sales. The company
wants an easy-to-handle and flexible factory, whose capacity can be increased further. The company
invited proposal to setup factory and has got six proposals. The proposals were analyzed and
summarized below.

Pro Required Cost of Operations, Labor NPV IRR

p- investment production maintenance and requireme (%)
osal (Tk. million) difficulties nt
No.
1 420 low Easy to handle and high 4 15
maintain, and flexible
2 620 competitive Easy to handle and Moderate 6.3 12
maintain, but not
flexible
3 700 low Difficult to handle and low 1.5 18
maintain, and not
flexible
4 390 competitive Easy to handle and Moderate 8 17
maintain, and flexible
5 550 High Difficult to handle and Moderate 10 9
maintain, but flexible
6 350 competitive Easy to handle and high -3.1 11
maintain, and flexible
 Project Management

If interest rate is 13% and inflation rate is 3% then answer

to the following questions.

1. Which proposals can be rejected before financial

analysis? Why?
2. Which proposal will be feasible? Why?

13/100= 0.13
3/100= 0.03
 Project Management

 The amount of time required to recover the initial investment that

the sponsors inject in the project.

Unrecovered cost at start of year

Payback Period= Year before full recovery +
Cash flow during year

Net Cash Flow($)

Year Project S Project L
0 -1000 -1000
1 500 100
2 400 300
3 300 400
4 100 600
 Project Management

Question.01:
Two new construction projects are proposed to a young start-
up company. Project A will cost $25,000 to implement and is
expected to have annual cash flows of $7,500. Project B will
cost $ 15,000 to implement and should generate annual cash
flows of $5,200. The company is very concerned about their
cash flow. Using the pay back period, which project is better,
from a cash flow standpoint?

Question.02:
The investment amount $100,000 with a cash inflow of
$25,000 per year for a period of eight years. If a required rate
of return of 15 percent and an inflation rate of 3 percent per
year, Find NPV.