Risk Analysis on Investment Decision
Silicon Arts, INC. (SAI) is a four year old company that manufactures digital imaging integrated Circuits (IC's) that are used in digital cameras, DVD players, computers, and medical and scientific instruments. Hal Eichner, SAI's Chairman, has a two-point agenda for the company to increase market share and keep pace with technology. As the Financial Analyst for the company one must analyze two mutually exclusive capital investment proposals. The two options are to expand the existing Digital Imaging market share or enter the Wireless Communication (W-Comm) market.
Shareholders in organizations like to invest in projects that are worth more than they cost. "In capital budgeting, the profitability index measures the bang (the dollar return) for the buck invested. Hence, it is useful for capital rationing" (Ross 2005 p166). The investment in net working capital is an important part of any capital budgeting analysis. "The sensitivity analysis is one approach (a.k.a. what-if analysis and bop analysis1), which examines how sensitive a particular Net Present Value (NPV) calculation is to changes in underlying assumptions" (Ross 2005 p169).
"Another approach is the break-even analysis. As its name implies,
this approach determines the sales needed to break even. The
approach is a useful complement to sensitivity analysis, because
it also sheds light on the severity of incorrect forecasts. We calculate
the break-even point in terms of both accounting profit and present
value" (Ross 2005 p 216).
In order to complete an analysis the Net Present Value (NPV), Internal Rate of Return (IRR) and the Profitability Index (PI) will be calculated. The difference between the project's value and c ...