Project GoalsIChoosing the Right Project

25

could obtainh n d s from a bank plus the rate of inflation. Others calculate it from its strategic plan needs.
0

NetPresentValue (NPV). Whereas IRR measuresrateofreturn,i.e., interest rate,NPV is a calculation of the size of the return in total dollars as measuredattodayseconomics.Thiscalculationinvolvesanumberof operationsandrequiresknowledgeaboutlengthoftheproject,when investment is to take place, when returns will start, the assumed inflation rate, and the reinvestment rate (how much return can be assumed for cash inflows). Companies have different assumptions when calculating the NPV, however, they all are useful in the same ways. If there is positive NPV, the project will make more money than placing it in a bank and, therefore,isprobablyeconomicallyjustified.Thelargerthe NPV, the higher the justification. This is a useful way to prioritize different projects where funds are not available to execute all good projects. NPV also gives us a better feel about risk. Projects that have high NPVs can usually support taking more risk. Projects with low NPVs may still be attractive, but should not have significant risk associated with them. Payback. This is a measure of how quickly the investment will be paid back. This is a time measurement. Some companies have hurdle times that dictate that a project must be paid back in a certain number of months before it will be approved. This is often done to overcome the hockey stickcurveswherereturnsare so faroutthatmeetingthem is very questionable.

Table 4.1 Example results

Option Cost,
~~

1 I 1
I

Cap Proj.Time, $M Mos.

1
I

1 1 I
I

Incremental IRR % profit, $Mlyr

4.7

1
I

I,,, 1 1 I
I

$M P c k ; , a ;;

A. Distillation

10.5
5.4

B. Solvent
Extraction C. Supercritical Extraction

7.0

1 I

16 16
24

13.728

3.3
4.1

I I

38 30

10.7 11.6

1 1
I

3
2

Table 4.1 indicates that all alternatives are profitable. Option B has the lowest capital and the lowest payback. However, it also has the lowest NPV. Option C has the highest capital and the highest NPV. From the analysis, is not it extremely clear yet which is the best option.