Task: A (1600 words) Answer the following Questions: Task: B (1400 words) Based on the data presented in the tables below, prepare a written report regarding the following:

1. Capital budgeting and project risk analysis is an important factor in the investment process.
Capital budgeting is the process of analysing projects, whether projects are profitable or not. Capital budgeting is a managerial tool that helps managers in taking key investment decision. This technique can be used to grade the projects, so that managers can decide whether to invest in the project or not. It also helps in deciding the project which maximizes value of the company and owner’s wealth.
Capital Budgeting is process of evaluating and analysing long term investment projects that are consistent with the objective of the firm. Capital expenditure decision affects the future cost of the company over a long time span. The investment in assets of the company increases the fixed cost of the firm which must be recovered from the benefits of the same project. If project turn out to be unsuccessful, firm has to bear loss and huge cost. Thus this risk can be minimized through systematic risk analysis of the project.
Capital investment decision are i
eversible and thus should be planned carefully and effectively in order to mitigate any financial loss. Capital budgeting helps in taking the effective investment decisions.
Capital budgeting decisions requires funds for the long term which lead to financial risk. Hence capital budgeting helps in making careful plan which reduces financial risk.
Project Risk Analysis
The investment opportunities exist between the cost and benefit achieved from the project. The expected future cash flows includes two main factors of uncertainty. Firstly the amount of expected cash flows and secondly the expected time period when these cash flow will generate in the future. Risk is the degree for measurement of uncertainty. Therefore safe investments will earn lower returns than risky investments.
2. Capital budgeting decisions are based upon three common measures:
1. Discounted Cash Flows
2. Cost of Capital
3. Tax rate
Cash Flows of projects
In capital budgeting analysis, cash inflows and outflows are determined over the life of project. Cash inflows include all the cash receipt from sale of goods whereas the cash outflow includes cash payment to suppliers, cash paid for overheads. Salvage value of asset is also included in the capital budgeting evaluation.
Cost of Capital
The firm’s cost of capital determines the minimum rate of return that is applicable for a capital project. It is the discount rate which is used to calculate the discount cash flows. The cost of capital is used to analyse the project. The cost of capital is compared with the project’s rate of return. A project whose cost of capital is lower than internal rate of return should be accepted.
Tax Rate
Capital budgeting decisions are mostly affected by tax rate applicable for the company. Tax rate plays a major role in accepting a project or rejecting a project. For analysing a project, cash flows are adjusted with the tax rate and after tax cash flows are considered. Depreciation is a non-cash expense, but when tax rate is given, tax saving on depreciation is determined.
Thus capital budgeting decisions are mainly based on cash flows, cost of capital and tax rate.
3. Capital budgeting is used to ascertain the requirements of long term investment project. Capital Budgeting decision includes various types of risk such as corporate risk, international risk, stand-alone risk, comprehensive risk, market risk, project specific risk and industry specific risk etc. There are many factors that affect forecast of cost, revenue and investment :
1. The business is affected by changes in political situations, economic conditions, taxation, interest rates, monetary policies etc.
2. Factors which are specific to industry also influence the demand of products in an industry to which it belongs.
3. Factors which are company specific like change in management, strike, and wage negotiations etc. also affect the decisions.
Thus risk analysis in capital budgeting is a part and parcel of risk management of enterprise. Every change in market conditions gives birth to a new challenge A firm which fears from inherent risk associated with it, will avoid the new challenge whereas a proactive firm will change the challenge into opportunity. Successful firms have experimental history of managing risk.
Therefore analysis risk has become an essential aspect of corporate management to reduce the element of uncertainty present in the capital budgeting decision.
4
Measuring cash flow is critically important for the capital budgeting. In capital budgeting, projected cash flow is calculated by two methods:
1. Forecasting Cash Flows on the basis of last year’s figures
In this method, cash flows are projected on the basis of past year’s figures. Management accountant makes estimates of the growth rate by analysing the marking conditions, risk associated with the project. The revenue is increased in proportion to the growth rate for each future year. It takes into consideration the inflation percentage to increase the expenses and sales.
2. Analysing other projects in the same industry to know about the growth rate and cash flows generated by the other project.
This method is used to make project more competitive. The cash flows of the similar project are considered and are adjusted for the inflation rate.
For calculating a reliable NPV, cash flow estimates should be...