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BHM201 Net Present Value and Accounting Rate of Return: Project Evaluation Assessment 1 Answer
ASSESSMENT 1 : PART D
Course Name:  Bachelor of Hospitality Management 
Course Code:  BHM16 
Subject Name:  Interpreting and Communicating Financial Information 
Subject Code:  BHM201 
Assignment title/Item:  Project evaluation – Net Present Value (NPV) & Accounting Rate of Return (ARR) 
Word Count Limit/Time  250 words 
Weighting:  5% 
Aim: The aim of this assessment is to apply a net present value calculation to two different investment options and, using the decision rule for NPV, make a recommendation as to the most financially attractive option.The assessment also requires a short answer response detailing some of the nonfinancial factors which should be considered when deciding between investment options.  
Task detail: Accor Investments has just purchased the Mantra Lorne Resort, and is proposing to invest $350,000 to upgrade some of the resort facilities. The General Manager has completed her research, and has come up with two projects – one to renovate the resort Café; and the other is to install a new gym next to the indoor swimming pool. As the only gym in Lorne, Mantra plan to sell memberships to those people who live in town, as well as charging guests who are staying at the Resort. Each project will cost $350,000. The General Manager must choose ONE of the two projects.

Questions (Total = 20 marks): a. Calculate the:
(6 + 10 = 16 marks)b. Using your results for the NPV project evaluation method, apply the decision rule to suggest which project makes more financial sense. (2 marks) c. Outline two (2) weaknesses of using the Accounting Rate of Return (ARR) for determining which project to invest in.(2 marks) 
Answer
ASSESSMENT 1: PART D
Project evaluation – Net Present Value (NPV) & Accounting Rate of Return (ARR)
Answer:
 i) Accounting Rate of Return for both the Café and gym projects
ARR is the measure of return with respect to the initial investment cost. It is calculated as the percentage of average annual profit to initial investment.
Increased profit  
Year  Café  Gym 
1  $64,000  $25,000 
2  $49,000  $35,000 
3  $34,000  $55,400 
4  $19,000  $72,400 
5  $19,000  $50,000 
Average Annual profit  $37,000  $47,560 
Initial Investment  $350,000  $350,000 
ARR  10.57%  13.59% 
ii) Net Present Value (NPV) for both the Café and gym projects
café  Gym  
Year  PV Factor @ 12%  Net cash flows  PV of cash flows  Net cash flows  PV of cash flows 
1  0.89286  $101,000  $90,179  $47,000  $41,964 
2  0.79719  $91,000  $72,545  $61,000  $48,629 
3  0.71178  $71,000  $50,536  $73,000  $51,960 
4  0.63552  $63,000  $40,038  $93,000  $59,103 
5  0.56743  $45,000  $25,534  $120,000  $68,091 
5 (salvage value)  0.56743  $125,000  $70,928  $150,000  $85,114 
Total cash inflows  $496,000  $349,760  $544,000  $354,862  
Initial Investment  1.0000  $350,000  $350,000  $350,000  $350,000 
NPV (PV of inflows  PV of investment)  $240  $4,862 
 b. Using your results for the NPV project evaluation method, apply the decision rule to suggest which project makes more financial sense.
Answer:
The NPV evaluation method uses the present value of cash flows to evaluate the investment. The NPV is = Present value of cash inflows – PV of cash outflows
The project is profitable and should be accepted if the NPV is more than Zero. This shows that the project will add to the net worth of the organization. At NPV zero the project will result in breakeven point with no profit and loss. At NPV less than Zero the project will reduce the net worth of the organization and hence should not be accepted (CFINPV, 2020).
From the above table it is seen that NPV of café is $240 and NPV of Gym, is $4,862. Since the NPV of Gym is positive and NPV of café is less than Zero, Investment in Gym is profitable should be acceptable.
 c. Outline two (2) weaknesses of using the Accounting Rate of Return (ARR) for determining which project to invest in.
Answer:
Weaknesses of using ARR are:
 The method ignores the time value of money in evaluating the investments. Time value of money plays a very important role in investment profit because a dollar earned today is more worth than dollar earned tomorrow. Therefore the method might prefer the project having higher returns at the end of the life cycle where as in actual the real value of the profits will be less (CFIARR, 2020).
 The method considers the accounting profit and ignores the cash flows. The accounting profits are affected by various factors like the different accounting policies, management practices and thus makes comparisons difficult. Therefore this method not an ideal metric for comparisons between the projects which have different durations and fluctuating cash flows (CFIARR, 2020).