Why the Project Valuation
Part of the process of entering into new ventures and building the business is the ability to properly asses those products for their worthiness and affordability. It is also part of the role of corporate finance to ensure that those projects lie within the strategic aims set for the company.
In this article we will be examining (with some brevity) some of the key tools and techniques used by corporate finance to ensure that they can consistently return accurate valuations of projects. This is not meant to be a lesson in accounting but rather an overview of what a specialist team does in terms of building its role within the organization.
The Valuation itself
A significant number of human and financial resources are required to set up the corporate finance teams. Apart from the strategic, local and unit budgets, there is a need to create staffing teams of both core staff and support staff to ensure that the work of the corporate finance team runs smoothly. A specific team will be allocated to valuing and assessing various project commitments as they come in from local teams. The methodology for valuation will be of interest to all managers who are interested in suggesting ideas for investment since they provide the basis for all the assessment criteria.
One of the key tasks in project valuation is to identify and quantify the cash flows for a particular project. These cash flows will map the relationship between one project and other projects but at the same time will also show the opportunity costs that are expected to be associated with taking one particular course of action.
Accountants like to compare these cash flows and come up with a net value which is used to rank the projects in terms of their suitability to meet the investment criteria that has been agreed. The basic principle is that any project will require money to come into it and will probably be expected to produce money. The net value of these two flows is quite significant in determining the viability of the project.
The corporate finance team will then discount the projected values of the project on the basis that it will have cash inflows and cash outflows. Often the formula is standardized after much experimentation and consultation. Interestingly some managers see this process as a hurdle because it can stop the operation of a project if indeed the corporate finance team recommends that such a project does not meet the funding criteria. When managers are making business cases for funding, they will pay particular attention to these discounting formulas because they could ultimately lead to the shelving of their project.
None of these activities work in isolation from the core business of the firm. Every aspect of project valuation will seek to identify the links and relationships between one investment opportunity and another. If the corporate finance team is unable to look at the organization as a whole then they will make patchy decisions that negatively affect the company. Project valuation requires a high degree of collegiate working.