Calculation of NPV and ROI and a discussion as to whether a goal congruence exists.

J plc$$s business is organized into divisions. For operating purposes, each division is regarded as an investment centre, with divisional managers enjoying substantial autonomy in their selection of investment projects. Divisional managers are rewarded via a remuneration package which is linked to a return on investment $($ROI$)$ performance measure. The ROI calculation is based on the net book value of assets at the beginning of the year. Although there is a high degree of autonomy in investment selection, approval to go ahead has to be obtained from group management at the head office in order to release the finance. Division X is currently investigating three independent investment proposals. If they appear acceptable, it wishes to assign each a priority in the event that funds may not be available to cover all three. Group finance staff assess the cost of capital to the company at $15$ per cent.

The details of the three proposals are:

Project A Project B Project C

$($$$000)($$$000)($$$000)$

Initial cash outlay on fixed assets $606060$

Net cash inflow in year $1212510$

Net cash inflow in year $2212020$

Net cash inflow in year $3212030$

Net cash inflow in year $4211540$

Ignore tax and residual values. Depreciation is straight line over asset life, which is four years in each case.

Basic: Approach the decision to select a project from the perspective of the corporation $($not from the perspective of the division manager$).$ What metric would you use to rank the projects $(0$ mark for this answer; yet, writing the answer is required$).$

Intermediate $(4$ marks$)$: Using the metric indicated above, complete the ranking and discuss $($you will earn $1$ mark if you explain the elements that make up the formula for the metric chosen above. To do so$,$ show how the formula relates to the problem. You earn another $1(1)/(2)$ mark if you explain the formula, that is$,$ what is the financial$/$managerial concept that underlies the formula and why should that formula be chosen in the present context. Be comprehensive but brief, please. You earn the remaining $1(1)/(2)$ mark if you show the calculations performed. If you use a spreadsheet to calculate, feel free to cut and paste it below.$).$

Now approach the decision to select a project from the perspective of the divisional manager.

Intermediate $(6$ marks$)$: Note that the remuneration package is linked to a ROI performance measure. Rank the projects $($you will earn $3$ marks if you correctly create a table for each project that shows the ROI for each of the four years. You will earn $3$ marks if you provide a well articulate rationale for the chosen ranking based on the numbers in the tables$)$

Intermediate $(5$ marks$)$: Consider the possibility of changing the performance measure away from ROI to R$.$I. Update the tables accordingly for each project $(3$ marks$).$ How would you update the rationale presented previously if R$.$I. is preferred to ROI? $(2$ marks$).$