Project Selection

Management focus on practices

Leadership focus on principles

Management focuses on task/things

Leadership focus people

An organization has two projects to choose from: Project A with an NPV of $45,000 and Project B with an NPV of $85,000. What is the opportunity cost of selecting Project B?

$45,000. The opportunity cost is the value of the project not selected.

Benefits Cost Ratio = 1

A benefit-cost ratio of 1 means the costs and benefits are equal.

What does a benefit-cost ratio of 1.7 mean?

B. The benefits, or revenue, the project brings to the organization are 1.7 times the cost of the initiative. Remember, the benefit-cost ratio calculation is looking at revenue, not the smaller figure of profits.

Management focuses on control

Leadership Focus - empowerment

Management focus on "doing things right"

Leadership focus on "doing the right things"

Management focus on commands

Leadership focus on communication

Management focus on speed

Leadership focus on direction

Management focus on efficiency

Leadership focus on effectiveness

Is the present value of $300,000 to be received three years from now, with an expected interest rate of 10 percent, more or less value of $300,000?

Less. You can put an amount of money less than $300,000 in the bank and in three years have $300,000. To perform the calculation: $300,000/(1+0.1)3 = $300,000/1.331 = $225,394.

An organization has two projects from which to choose. Project A will take three years to complete and has an NPV of $45,000. Project B will take six years to complete and has an NPV of $85,000. Which one is a better investment?

Project B. The number of years is not relevant, as that would have been taken into account in the calculation of the NPV.

An organization has a project with an initial budget of $1,000,000. It is half complete and has spent $2,000,000. Should the organization consider that it is already $1,000,000 over budget in determining whether to continue with the project?

No. The money spent is gone. Sunk costs should not be considered when deciding whether to continue with a troubled project.

Which project would you select for Net present value? Project A $95k or Project B $75k

Project A $95k

Which project would you select for payback period? Project A 16 months or Project B 21 months

Project A 16 months

Which project would you select for benefit-cost ratio? Project A 2.79 or Project B 1.3

Project A 2.79

There are two projects from which to choose: Project A with a payback period of six months and Project B with a payback period of 18 months. Which one should the organization select?

Project A Based on the information given in this example, the project with the shorter payback period is the best choice, but that payback period is likely tobe one of several financial factors, along with other considerations, used in selecting a project. In some cases, the best choice might be a project that has a longer payback period but various other advantages.

An organization has two projects from which to choose: Project A with an IRR of 21 percent and Project B with an IRR of 15 percent. Which one is a better option?

Project A IRR of 21%

Which project would you select for IRR? Project A 13% or project B 17%

Project B 17%

Present Value (PV)

The value today of future cash flows and can be calcuated using the formua: PV=FV/(1+r)^n. FV = future value, r= interest rate, n = time periods. If the question is discussin how the project is selected for funding, PV represents present value.

Internal Rate of Return (IRR)

Think of a bank account and expect to get a return—for example 1%. If a company has more than one project in which it could invest in the company would select the project with the highest return. The formal definition is: the rate (interest rate) at which a project inflows (revenue) and project outflows (costs) are equal. Know that the higher the IRR number, the better.

Payback Period

This term refers to the length of time it takes for the organization to recover its investment in a project before it starts accumulating profit.

Opportunity Cost

This term refers to the opportunity given up by selecting one project over another. This does not require any calculation.

Cost-Benefit Analysis

compares the expected costs of a project to the potential benefits it could bring the organization

Return on Investment (ROI)

determines the potential profitability of an investment by calculating the benefits received in relation to the cost

Sunk Costs

expended costs.

Net Present Value (NPV)

that it is the present value of the total benefits (income or revenue) minus the costs over many time periods.

Economic Value Added (EVA)

this concept is concerned with whether the proiect returns more value than the initiative costs.