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# Investment analysis

## 1. Investment analysis

Prof. R. Aernoudt## 2. Definition

• Corporate finance:“Increase the value of the company for

the shareholders”

• Application:

– investment decision

– To Invest = buying fixed assets

– Compare alternatives

## 3. Investment

Time and riskExpenses today

Revenues (perhaps) tomorrow

Balance sheet:

Assets: FA increases//Fl. A decreases (treasury)

Liabilities: financing (OF/Debts)

## 4. Investment Hermès Ltd

Actual value of investment:Yearly generated CF: 5720

Should we do the investment?

Different methods:

Payback period

IRR

Net actual value

Profitability index (PI)

12700

## 5. 1/ Payback period

TVP = Initial investment/CF12 700/5720 = 2,2 year

Inconvenients:

What happens afterwards ?

Length = arbitrary

CFs are not actualised

Advantages:

Easy method

Used quite a lot

## 6. Internal rate of return

IRRReturn where actuak value of expected CIFs equals the

present value of expected COFs.

BI = CF1 + CF2 + CF3 + …. = ΣCFn

1+r

Annuity

(1 + r)²

(1+r)³

(1 + r)ⁿ

## 7. Internal rate of return (2)

Annuity = what is the actual value of an amount that Iget every year?

CF 5720//Inv. 12070

12070 = ann. factor x 5720

See annuity tables

2,1427

Cutoff rate of hurdle rate

37%, 2,1058

38%

## 8. Internal Rate of Return (3)

Inconvenient of method:Difficult to calculate

How to fix cut-off rate

Advantages:

Easy to compare projects

Actualisation of returns

## 9. 3. Net actual value

Ex ante fixed minimum return (v)COF ≥ CIF: not invest

NAV = ΣCIF/(1 + v)ⁿ - ΣCOF/(1 + v)ⁿ

Suppose 40%: 5720 x ann. Factor (2,0352)

CIF – COF: 11641 – 12070 = negative

Inconvenient:

As complicated as IRR

Difficult to compare alternatives

How to fix v?

## 10. 4. Profitability index

Variation on same topicPI = ΣCIF/(1 + v)ⁿ

ΣCOF/(1 + v)ⁿ

If PI ≥ 1 then invest

Inconvenient: idem NAV

Exercise: calculate PI with required return of 35%.

## 11. Case : Ltd Hermès

Turnover: year n +1: 200 M; thereafter 250 MFinancing proposition bank:

1st phase: 3700 K; 5 years

2nd phase: 8000 K; 8 years (not 10)

Evaluate investment following different methods

Make exercises 5 & 6