Introduction
Capital budgeting techniques are used by businesses to assess the viability of projects, and it could be the purchase of new equipment, a new plant, or a new mine. Investment appraisal involves analyzing the project's cash outflows and cash inflows in its lifetime to determine whether the returns are projected to meet a sufficiently set benchmark target. If an investment meets the benchmark cash flows, it is accepted; if not, it is rejected. The primary capital budgeting methods applied include discounted cash flow methods and non-discounting methods (Kenton, 2020) . Accounting ratio of return and payback time approaches are the non-discounting methods, while the net present value, internal rate of return, and profitability index are the discounting techniques. For purposes of appraising the new mine strips for Pickins Mining company, the approaches to be used include methods under the two procedures.
Analysis
Payback period
The approach is used to determine the time it would the project to recoup the initial investment. It is a simple approach that allows managers to insight into the project's real value, especially in situations where there are limited funds. The company wants to recover the project's funds in the shortest time possible (Kenton, 2020) . Pickins Mining company had an initial investment of $ 56,274,500, and according to the net cash flows determined from year one to year 4, the payback period will be determined as follows;
Delegate your assignment to our experts and they will do the rest.
Years cashflows
1 $21,827,040
2 $25,857,200
3 $25,861,000
To recoup $56,274,500, it would take 2 years and (8,590,260/25,861,000) months
Payback period is 2 years and 3months.
Profitability index
PI is an indicator used to illustrate the connection amid the benefits and costs of a planned project. It is determined as a proportion between the current worth of both the cash inflows and cash outflows (Kenton, 2020) . In the case study, Pickins Mining corporation's projected cash flows and cash outflows on the project are as follows;
Year Present value of Cash inflow Present value of cash outflows
0 $56,274,500
1 $19,488,428.57
2 $20,613,201.53
3 $18,407,348.99
4 $29,191,925.54
5 $3,120,847.71
6 $1,443,898.70
Total present value of cash inflows = $89,144,803.44 while the present value of cash outflows is $59,395,347.71
Therefore, the PI of the mine is; 89144803.33 / 59395347.71 = 1.50
Under this method, a project with a PI index of more than one is considered a worthy investment, and a higher PI is preferable.
Net present value
NPV is determined as the variation between cash inflows' current worth and the current value of cash outflows within a definite time. The project's cash inflows need to be sufficient and exceed the investment amount's opportunity cost ("Capital Budgeting Techniques With an Example |Meaning, Example," 2019) . Pickins Mining Company invested more than $56 million. The cash inflows need to cover the ongoing and initial cost and the opportunity cost of the initial investment. The NPV of the strip mine project would thus be determined as follows;
Present value of cash inflows $89144803.44 while the present value of cash outflows is$59395347.71. NPV = (89144803.33 - 59395347.71) = $29749455.62
The project's NPV is positive, and thus it's a viable project.
Internal rate of return
The internal rate of return is the ratio that equates the NPV of cash inflows to zero. It is the annual growth of the project's earnings (https://www.accaglobal.com, 2017) . In the case study, the trial-and-error method is used to estimate the IRR, and as the excel workings illustrate, the project's IRR is 26.95%.
From the above analysis, Pickins Mining company should accept the mining contract since it has a positive NPV, a short payback period of two years, and an above one PI index. The new strip mine is financially viable worth the investment.
Conclusion
Capital planning practices are used to evaluate financial viability and are widely employed by firms to assess projects such as mine strip before committing vast sums of money. The company employed both discounting and non-discounting techniques to evaluate the viability of the strip mine project. All of the approaches used in the analysis had positive results. The NPV was positive, high IRR and PI index and a short payback period indicating the company should take the contract.
References
Capital Budgeting Techniques with an Example |Meaning, Example . eFinanceManagement.
(2019). Retrieved 27 January 2021, from https://efinancemanagement.com/financial-management/capital-budgeting-techniques-with-an-example .
https://www.accaglobal.com, A. (2017). The internal rate of return | FFM Foundations in
Financial Management | Foundations in Accountancy | Students | ACCA | ACCA Global . Accaglobal.com. Retrieved 27 January 2021, from https://www.accaglobal.com/in/en/student/exam-support-resources/foundation-level-study-resources/ffm/ffm-technical-articles/the-internal-rate-of-return.html .
Kenton, W. (2020). Capital Budgeting . Investopedia. Retrieved 27 January 2021, from
https://www.investopedia.com/terms/c/capitalbudgeting.asp .
