Features of the evaluation of investment projects in the enterprise
The development of investment processes at the enterprise contributes to the increase of its capital, and hence, the value of this enterprise for a particular owner. In this regard, there is a need to analyze and evaluate investment projects in the assessment of the company's business in order to identify its value, taking into account the investment potential of this company.
The investment process, like any other, proceeding to achieve the tasks assigned to the company, is a process managed by the company's management. At the same time, it is necessary to be able to identify the processes taking place in the organization from the point of view of assigning to them the qualification "investment". There are the following distinctive features of the investment process, in comparison with other processes occurring in the enterprise:
• the determining effect of the time factor on the results obtained;
• the direction of the use of enterprise resources in an area that is incomparably narrower in comparison with the zone of strategic use of the general resources of the enterprise and in most cases is different from the field of traditional activity of the enterprise;
• a sufficient degree of novelty in the firm's actions in this direction;
• usually a higher degree of risk of the company's activities in the investment direction.
Investment processes are most useful for enterprises:
• adhering to an aggressive behavior model;
• convinced that the traditional line of business has exhausted growth opportunities;
• Seeking a more stable state in the future due to diversification of their own activities.
On the one hand, an enterprise can be viewed as an investment, i.e. as property, the value of which is determined by the income it brings.
The total cost of an enterprise is the value of a consecutive series of discounted net cash flows n at the discount rate chosen, which can be written as follows:
where - the cash flow for the period t; n - the estimated period of operation of the enterprise; i is the discount rate.
The application of this formula poses at least two problems that we have already encountered in the study of investments: the calculation of cash flow and the choice of the discount rate. But in the context of enterprise assessment these problems should become the object of special theoretical and practical research. It is a question of calculating, for each period of the enterprise's life, a positive or negative balance of all liquidity flows received during its operation (receipts and payments) and development (de-investment and investment payments).
On the other hand, an investment project can act as a separate object of valuation, and as an integral part of a company's property is its intangible asset, valued separately in the evaluation of the whole business by a cost approach. In this regard, it is important to identify the degree of isolation of the investment project within the enterprise.
For the most accurate assessment of the effectiveness of the investment project, it is necessary to identify those costs and revenues that are directly related to the investment, and not to the current activities of the enterprise. Thus, there is a process of isolation of the project within the enterprise that implements it.
The part of the cash flow that reflects the inflows and outflows that resulted from the investment activity of the enterprise is called the investment cash flow. This part of the cash costs includes cash costs for the purchase of equipment, other investment costs. In turn, the inflow can be the income received by the enterprise from the sale of equipment and other long-term investments. These costs and incomes are not current, are not directly related to the current production activity of the enterprise, therefore they are usually allocated to a separate group.
There are direct and indirect methods of building a cash flow. When using the direct method , cash inflows and outflows are reflected directly on financial documents. The indirect method assumes the construction of a cash flow from the plan on profit and loss. In this case, the net operating cash flow is defined as
The structure of the investment cash flow is as follows.
• acquisition of fixed assets;
• acquisition of intangible assets;
• investments in working capital growth.
• proceeds from the sale of property, plant and equipment.
When analyzing cash flows, distinguish the cash flow from the activities of the enterprise as a whole and the cash flow of the investment project (decision). The project's cash flow reflects the inflow and outflow of cash generated directly by this project. To determine it, it is important to compare the company's cash flow in the event that the investment is made and the company's cash flow when the project is abandoned. The cash flow of an investment project is an incremental (added) cash flow and is defined as
where - the company's cash flow when accepting the project; - the enterprise cash flow when the project is rejected.
At the initial stages of project development, implemented at the operating enterprise, an approximate estimate of its effectiveness by the incremental method is allowed.
In its application, the calculation is almost the same as for a project carried out at a newly created enterprise. However, some calculations are changing.
• As the sales volume, the number of personnel, the value of fixed assets, current assets and liabilities, and other "volumetric" of the indicators for the IP, the magnitude of the deviation (which may be negative) of the corresponding indicators for the enterprise as a whole, due to the implementation of the project, is adopted. In particular, depreciation of those fixed assets of the operating enterprise that are involved in the project is not taken into account. At the same time, the revenue from the sale provided by it to the side of the property of the operating enterprise is subject to mandatory accounting.
• The taxes related to the project are calculated in accordance with the planned changes (increments) of sales proceeds, balance sheet profit, wages, property costs, etc. However, the property tax of the operating enterprise is not taken into account in the part used in the IP. The profit tax and benefits on it are determined on the basis of the increase in the balance profit for the enterprise as a whole (additional profit due to the implementation of the project) and that part of it that is used to reinvest or repay the loan taken for the project. The financial position of the enterprise as a whole and the need to start up this additional profit for the repayment of previously received loans are not taken into account. In cases where a part of the profit is reinvested or sent for repayment of investment loans, the operating enterprise has a profit tax privilege. It is not recommended to take a similar benefit for an IP, unless a special analysis shows that the amount of this benefit will be maintained for the enterprise as a whole. When verifying the financial feasibility of the project, additional consideration is given to the possibilities of its financing from the enterprise's resources. To this end, the company's own funds are included in the calculation of the inflow of funds from operating activities; income from its activities not related to the project, the size of which should be specified in the source information.
The incremental method is an approximate method of evaluating a project at an operating enterprise. It is recommended to apply it primarily for enterprises with a relatively stable financial position, since only in this case the satisfactory financial indicators of the project will guarantee the financial stability of the enterprise. It can also be used to assess the commercial efficiency of the project, but only for such active enterprises, whose participation in the project is limited to individual operations that do not greatly affect the overall performance of their activities (lenders, landlords, assembly and transport organizations).
By the way, the methodology for calculating the budget efficiency is also based on the incremental method.
This method allows not only an approximate evaluation of the effectiveness of different options for IP, but also to identify the need for government support for the project, its rational size and shape. Nevertheless, it is recommended that a more detailed justification of the state support for each operating enterprise participating in the selected project variant, as well as calculations of the effectiveness of the IP for the shareholders of the operating enterprise, be made in accordance with the provisions of the second assessment method - calculations for the enterprise as a whole.
The second assessment method is based on comparing the development options of the enterprise as a whole with the project and without project (hereinafter referred to as main and background options). The main variant is formed by making the necessary adjustments to the indicators of the background variant.
Here it is important to bear in mind that even in a situation where a specific project covers a certain subdivision of an enterprise (for example, provides for the reconstruction of a warehouse or access roads), the object of evaluation is precisely the program (plan) for the development of the enterprise as a whole, developed in two variants - background and basic. This complication is necessary, since the implementation of IP can affect all indicators of the enterprise, in particular, it can lead to improved financial performance of the enterprise, reduce the risk of its financial insolvency, while increasing the attractiveness of its shares on the market. As a result, the cost of the company's own capital will also change, which means that in accordance with the WACC method and the discount rate.
Background information on the background version, in the final analysis, is reduced to the cash flow forecast for the enterprise as a whole in conditions when the evaluated project will not be realized. It should be sufficient for:
• evaluation of the effectiveness of this background version of the enterprise development;
• adequate consideration of the impact of the implementation of the evaluated project on the technical and economic indicators of the enterprise, i.e. to form an alternative basic variant and calculate its effectiveness.
In particular, the source information should contain information:
• about balances for the last accounting periods and about general financial indicators of the enterprise, calculated on the basis of these balances;
• Sales volumes and sales revenue;
• transaction costs, including direct material costs, labor costs for production personnel, sales costs, production management, depreciation, and taxes attributable to cost and financial results;
• the volume of capital investments planned for implementation at the expense of own funds (regardless of whether or not the project under evaluation will be implemented)
• the main terms of mutual settlements with counterparties for the supplied products and goods and services purchased;
• Debts on previously received long-term loans and on the terms of their repayment.
When moving from the background to the main option, it is necessary to take into account that the implementation of the IP can affect the various technical and economic indicators of the enterprise. Particular attention should be paid to the following circumstances.
• Regardless of which part of the fixed assets of the operating enterprise is participating in the project, the amount of depreciation and tax on the relevant property does not change during its implementation.
• Both the background and the main project options may provide for alternative (possibly different) use of all or some property of the enterprise (for example, selling it or renting out). This should be taken into account when calculating the technical and economic indicators of the enterprise, in particular profits and taxes; the change in the profit tax on the enterprise as a whole may turn out to be less than the tax on the additional profit provided by the implementation of the project (for example, if the enterprise has losses on the "background" option); in the case when the implementation of the project changes the duration of the production cycle, this affects the amount of work in progress for the enterprise as a whole and the size of its current assets.
• Since the realization of an IP changes the enterprise's need for raw materials, materials or components, this affects not only the direct material costs of production, but also the amounts of inventories and invoices.
• At each step of the billing period, the company's summary financial indicators should be checked, especially those that are taken into account when deciding whether to initiate a bankruptcy procedure. The achievement of the limiting values of the relevant indicators should be reflected in the organizational and economic mechanism of the project as one of the conditions for its termination.
If there are many background options, you have to choose the best ones.
Thus, the evaluation of the effectiveness of the project by the method of " the enterprise as a whole" is carried out by comparing the optimal development option of the enterprise providing for the project implementation, with the optimal variant of the enterprise development in the conditions of project abandonment.
In projects implemented at existing enterprises, it is usually envisaged to use previously created fixed assets. In calculating the efficiency of the incremental method and for the enterprise as a whole, this circumstance is taken into account in different ways. Consider these differences for a project that uses an existing building.
To begin with, if the project were implemented "from scratch", then rejecting it would be tantamount to an alternative project "do nothing" with zero effect. For an operating enterprise, this alternative is not available. Therefore, the rejection of such a project would mean the need to involve the building in some other way. When calculating for an enterprise as a whole , this method is reflected in the indicators of the background variant. Therefore, the cost of an existing building can not be included in the costs of the main and background options. When calculating the incremental method, abandoning the project means an alternative use of the building. It is practical to limit two options: to sell a building or lease it. The maximum integral effect (NPV) of the best of these methods determines the alternative cost of the building, which, when the incremental method is included in the cost structure.
In addition, when evaluating the effectiveness of investment projects implemented in an operating enterprise, it is necessary to consider the following.
• The company's fixed assets, inventories and labor resources can be used for the implementation of IPs.
• The sources of financing of investment projects may be the depreciation of fixed assets and the profit of the enterprise itself. At the same time, depreciation and profit received as a result of the investment project can be directed by the enterprise for investment in other projects.
• The discount rate should apply to the enterprise as a whole. In particular, the risk-free discount rate should take into account the profitability of capital investments not only outside this project, but also outside the enterprise itself, and the risk premium included in the discount rate should take into account both the project risk and other risks associated with the whole activity of the enterprise .
• Tax payments and related benefits, as well as possible credit repayment schedules, can, as a rule, be accurately calculated only for the enterprise as a whole, and not for this project.
• The implementation of the project affects the technical and economic performance of the enterprise as a whole, including the amount of its financial resources. The nature and magnitude of such an impact depends on its effectiveness; the duration of the settlement period becomes to some extent conditional, since the termination of the project does not mean the closure of the enterprise. However, even the implementation of a very effective project at a large enterprise does not necessarily save it from bankruptcy. In other words, the conditions for termination of the project at the operating enterprise are further linked to the financial performance of the enterprise as a whole.
• Immediate, direct result for the enterprise from the project in one of the subdivisions (shops, plots) is usually an increase in the production of intermediate products (works, services) consumed by other divisions. Such products often do not have circulation on the market and, therefore, do not have a market price. The project implementation changes the financial indicators of the enterprise, and their dynamics for the enterprise as a whole and for the project may not coincide. So, the latter can be characterized by high return on invested capital and a high liquidity ratio, while the enterprise as a whole will remain unprofitable and its short-term assets will not be sufficient to cover short-term liabilities.
• Implementation of the project, as a rule, does not require a change in the accounting policy of the enterprise and the conditions of its relationship with former partners. Relationships with new partners - participants in the project - may be different; decisions on the selection of projects and their implementation are usually made by managers, and not by owners of operating enterprises. If the activity of managers is evaluated in terms of short-term accounting results, they will prefer projects that involve less risk and (or) provide a faster effect.
Finally, in real life, any enterprise faces the limited resources available to it. This problem raises the need to choose from a variety of forms of business activity those that most closely meet the objectives of the enterprise and allow the most effective use of available resources. In the situation of insufficient resources for the implementation of the project, the enterprise unites its own resources with the resources of other enterprises. Sometimes this association takes the form of the formation of a new legal entity, almost all costs of which are directly related to the current investment project. Evaluation of the success of the operation of such an enterprise is essentially the same as evaluating the effectiveness of the investment project itself.
If an enterprise unites its resources with another economic entity, while forming a new legal entity, the partner's funds can be considered as own from the point of view of project implementation, since they form part of the capital of the newly formed enterprise. At the same time, for the initiator of the project, these funds are essentially attracted. This distinction needs to be taken into account in order to avoid terminological confusion, speaking about own and attracted funds.
As we know, the fundamental difference in the evaluation of alternative and independent projects is that when considering a set of mutually exclusive projects, the evaluation task is reduced to finding among them the most efficient from the point of view of using the available rare resources. In the case of a set of independent projects, the task of investment analysis is in determining the compliance of each project with the requirements for it (for example, the riskiness of implementation, activity, etc.).
If an enterprise faces in its activities a set of projects, some of which are mutually exclusive to each other, and some are independent, then the task of evaluating projects in terms of optimal financial management of the enterprise is to form a portfolio within the available financial resources, ensuring the most effective use of them.
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