Accounting

Accounting

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Ref No: 3187

1: Payback Period:

Based on the results of payback technique, it is recommended that the project should be undertaken as company will recover its invested amount in 2.6 years which seems to be valid opportunity for the company while keeping in view that company has short term liquidity problem.

As company will recover its amount in a short period of time therefore investing in this lucrative opportunity is a good option. Although it is advised that few points should be taken under consideration while using this technique for taking any financial decisions as this technique has its own benefits but then it also has certain demerits for using this technique.

This type of financial analysis is simple and offers a quick overview of breakeven point for taking decisions especially for companies having liquidity problems. It allows a company to know how early an investment can be recovered but then there are some disadvantages of using this technique as well.

The most obvious disadvantage of using this technique is that it does not take time value of money in consideration which is the most important aspect while taking any financial decision and the other disadvantage is that it ignores all the cash flows that occur after a payback period. Therefore it is advisable to use this technique with other appraisal techniques in order to take an informed decision.

2: Net Present Value (NPV)

Net present value is a popular technique widely used around the world in almost every financial decision making while undertaking any project. According to the results of this technique, Hope Electronics Ltd will add $2.87 million to shareholders wealth over a period of 5 years which means that company should go with this project.

Accounting. The result of this financial technique is also congruent with the results of the payback technique which strengthens the case and shows that by undertaking this project Hope Electronics will benefit over the years.

The advantage of using this method is that it provides the amount of value that a project will create for the shareholders and it also undertakes the time value of money which is ignored by the payback period method.Accounting

Although using this method has certain advantages but it also has certain shortcomings which should also be addressed. The foremost shortcoming of this project is that it gives dollar values only for taking any decisions and that two different projects of different sizes cannot be compared based on their NPV values.

The other disadvantage is the assumption about the company’s cost of capital over the years. If company decides upon taking a low or a high cost of capital then it will either undertake a bad project or forgo a good project, therefore, it is a complex method were assuming a cost capital required a lot of working to ascertain an acceptable cost of capital of the company…………………….continued