Section 1 – Solution

To: Lucas Brown

Subject – Segment Reporting and corporate Strategy

Hi Lucas

Please see the requested information below about whether we need to provide more information in our
segmental reports in order to comply with IFRS 8 and an assessment of some of the limitation in our
segment reporting.

I have also explained what is mean t by environment uncertainty and a more flexible approach to
strategy developments, including adopting an emergent approach to strategy development.

Task 1 – Statement Analysis

IFRS 8 Requires its entity to report its operating segments. To be defined as operating segment, a
business unit must earn revenue and its data must be regularly reviewed in a summarized format by a
decision maker to steer the business.

Reportable Segments

Operating segment are separately reportable where they exceed 10% of revenue/profits/Assets/. These
must be in total cover 75% of entity’s total revenue, otherwise additional segment will be classified as
reportable segments even though they do not meet the 10% rule.

The minimum disclosure is the profit or loss and assets relating to each segment, geographic disclosure
of external revenue and non current assets are also require as well as revenue from major customers.

Reporting on other line items in the financial statements is based on whether the key decision maker
regularly reviews and uses this information. We may therefore want to consider expanding the
information in our segments reports to include things such as liabilities and interest payments.
Reconciliation to the main financial statements must also be provide for all data reported.

Aggregation of segments

It is acceptable to aggregate the potentially reportable segments and so we may not be required to
provide shareholders with the level of details that is reported to the board. The crucial issues here is
whether segments have similar economic characteristics. It may be little value to the shareholders to
distinguish between the revenue and costs of each of our ships, if the margins are similar and the risk of
doing business are identical.

Use of segments reporting in the cruise line industry

 Our use of segment reporting not out of line with other companies in our market. Royal Caribbean for
example has four brands including TUI cruises and skysea cruises however does not provide segmentl
reporting.

Royal cariibean acknowledge that each of its brands has its own marketing style, as well as ships and
crew for various sizes. However it argues that the nature of the product sold and services delivered by
this brands, share a common base, which is a sale and provision of cruise vacations. It also claims that its
brands have similar itineraries as well as similar cost and revenue components.

Our current segmentation approach

We do distinguish between our main revenue sources and that makes sense because the margins are
different on each of these. We would need to consider the reason for us receiving further analysis by
seasons, to determine whether there any value in us giving it to the board and if so what that value
might be.

Evaluating performance

If we are evaluating the performance of individual cruise ships then we are evaluating stewarding and
we are not in breach of IFRS 8. However we can justify failing to adhere to IFRS 8 on the grounds that full
disclosure would assist our competitors. The responsibility for adhering to the requirements of IFRS
always falls upon the directors.

Limitation of analyzing segmental reporting

Lack of comparability

A key limitation of segmental reporting is that an entity managements selects the segments used in its
reporting, meaning different entity will use different criteria when determining reporting segments. This
makes fair comparison between business, such as ourselves and wavelyne, difficult. Segmental analysis
is therefore more useful when comparing the same entitys performance overtime.

Information Concealments

As managements identify operating segments, this process can be subjective and open in manipulation.
Not only does this limit comparability with a competitors like wavelyne as discussed above, it creates
the potential for manipulation of information which has the potential to mislead the users.

Allocation of common items.

Certain expenses, assets and liabilities cannot be allocated to specific segments. The arbitrary allocation
of this common items can therefore reduce the useful ness of segment analysis.

Measurements of segment results and assets

IFRS8 does not define segment result and assets. It only requires the disclosure of the figures (Profit,
asset, etc) thus, different bases of measurements can be used to present these in a segment report and
the main financial statement.

Task 2 – Emergent approach to strategic developments

Uncertain Environment

The current questions surrounding our strategy highlight the difficulties associated with formal top
down approach to strategy formulation, in an unpredictable and uncertain environment. CIMA defines
uncertainty as the inability to predict the outcome from an activity due to lack of information about the
environment within the activity takes place.

Uncertainty therefore links to the concept of complexity and dynamism,both of which are cruisecalm
wider environment. The potential for change in our external environment, means that our planned
strategies may have to be frequently adapted to allow us to respond to unexpected challenges. Making
strategic decisions and undertaking future planning in an uncertain environment will therefore certainly
be challenging for us.

Complexity

Complexities refers to the number of external variables which can impact on cruisecalm operations and
difficulty in predicting, forecasting and understanding these variables. A key factor to consider here is
key relationship between these external variables, as the more complex these relationships are, the
greater uncertainty cruisecalm will face.

Dynamism

Dynamism refers to the rate of change within a business environment. In the crusie industry, this could
mean the changing customer trends we face in relation to areas like cruise destinations, on board
facilities and technologies. Increased dynamism here means that a company’s view of how things work
becomes out of date much quicker. This is often due to factors like rapidly changing technological
developments.

In terms of the implication of these factors for strategy developments, high uncertainty reduce the
planning horizon, while it could even be argued that a highly uncertain environment challenges the
value of undertaking planning at all.

Emergent based view to strategy development.

Emergent strategy development, as being proposed by some members of the board, is often a response
to unexpected contingencies, brought about by high levels of uncertainty. This would suggest that a
more emergent approach to strategy is likely to result in a more short-term emphasis than some other
approach. (E.g The national approach)
According to mintzberg, successful strategies can emerge without formal deliberate prior planning, with
continual readjustment making sense if a business environment continually changing. Emergent strategy
arise on the basis of series of decision creating a pattern which becomes clearer over time, as opposed
to strategy as a grand plan.

Quality of information for decision making

In this sense, an emergent approach to strategic development is on which may be tired and developed
as it being implemented. If it fails then there may be different approach may be taken. Continual taking
a strategy also provides improved quality of information for major decision.

Culture of innovation

A culture of innovation is a key part of successfully adopting an emergent approach, allowing rapid and
effective adaption to be made in the face of external changes. Should we adopt a deliberately emergent
strategy, the board could take the comfort from the fact that there is already a culture of technical
innovation in place at cruisecalm, which would be needed in order to respond to changing market
condition.

Flexibility

In addition manager may need to exhibit greater flexibility by encouraging initiative throughout the
business, from front line employees to middle managers. Manager should also be closer to their
business in order to implement the likely impact of any external environment changes, whilst at the
same time feeling compel to constantly rethink the company strategic future.

Increased Information

When the external environment is unpredictable, this mean that cruisecalm will require more regular
information, on a greater range of factors. If the company elects to adopt emergent strategy
formulation this need for information will increase further because number of recipients of such
information will increased.

Benefit of cruisecalm of an emergent approach could include.

Reacting effectively to customer demand.

Adopting an emergent approach would allow us greater flexibility to exploit emerging trends or
changing customer demands in the cruise industry. For example, should a social and economic condition
change in a particular holiday region, then we would be able to react and respond more effectively by
changing our destinations or the price of our products or services.

Being more innovative

An emergent approach also allow cruisecalm to be more innovative and creative in the developments of
the products and service delivery as we can react to the latest and the most current trends in the
holiday market. For example, it is likely that customer demand drove cruisecalm to provide free WI-FI on
its fleet.

Strategic flexibility

Cruisecalm will also be able to try and test strategies while they are being implemented. This will allow
us to adapt the change things where necessary over time. The holiday market is likely to continue to
evolve, as customer preferences and test for locations and activities changes an emergent approach
therefore provide cruisecalm strategic flexibility to adapt as necessary.

Conclusion

Emergent strategies can be combined with the successful elements of the planned strategy e.g oyr
current resource based view to define the way forward for business. The process of bringing this
together is called crafting a strategy.

This is more appropriate for business in changing environment (Which course is the case of cruisecalm)
where restriction to be one planned strategy could be competitive weakness. In our case not capitalizing
on new opportunities, like changes in technology, quickly enough could be a significant weakness as
highlighted in our risk management report.

Regards,
Section 2 – Solution

From : Financial Manager

To: Bella Lim Finance Director

Subject: KPI and Disciplinary Process

Hi bella

As requested I have outlined my thoughts on the advantages and disadvantages of a collaborative

process in setting KPI, as well as how we could manage the problem of a dysfunctional response to KPI
targets.

In relation to the issue around the near mess incident and the subsequent investigation, I have outlined
some guidelines on disciplinary actions and advice on the consequences if the guidelines were not
followed.

Task 1 KPI

Collaborative process disadvantages

Involving managers and ship captains in setting of KPI’s is a more time consuming process than target
being imposed by senior management, as this process will require more time spent discussing and
debating issues.

Training

Manager and ship captain might need extra training in order to fully understand the implication of
choices that they are agreeing to when setting KPI’s. while there would be time and financial costs
consider here, this could however mean that in the long term these staff member will be better
equipped to understand our business and their role in it, improving their decision making.

Personal Influences

We also currently face the risk of managers and captains setting KPI’s that make their specific areas of
the business appears to be well managed. This narrow focus could prove a distraction from maximizing
the performance of our business as whole. The wider perspective of senior management, would prevent
this from being an issue.

Risk of demotivation

Managers involved setting their own KPI’s may lobby for less challenging targets in order to make them
easier to achieve. If they are simply overruled then there are little point in having any sort of
collaborative process. Indeed if the consultation is not genuine and senior management override what
has been set with their own targets then we risk demotivating managers and captains.
Collaborative process advantages

Conversely, if managers and captains feel that their voice is being heard and their opinion is important,
then their motivation will improve. If these parties have a say in determining the level of KPI’s then they
are more likely to work hard to achieve these targets, if only because they have been involved in setting
the performance measures and have agreed to them.

While their wider business perspective may be weaker, lower level management may have more weaker
knowledge of their area of the business. They will therefore will be in a good position to determine what
targets are achievable in practice.

Dysfunctional responses to KPI’s targets

The key to monitor dysfunctional behavior is to monitor all available information about performance
and to hold managers accountable for actions. For example, if ship suffers serious mechanical
breakdown in an area not covered by KPI’s then the captain should be asked to how the problem
occurred.

If it is cleared that the captain had deferred necessary maintenance, for example to reduce cost and
increase profit from a voyage, then senior management should treat that as disciplinary matter. At the
very least, it should be made clear to the captained concerned, that an error judgement has been made
which will be reflected in future performance evaluations.

Conflicting KPIs

Where possible, we should also try to ensure that KPI’s are set in a way which avoid any potential
conflict from developing. For example, Kpi’s maintenance costs has the potential to conflict with a KPI
relating to the number of safety incident on the board vessel, as the staff may defer maintenance to
keep costs down, resulting in injury occurring.

Setting aside KPI’s

Cruisecalm could also make it clear that captains and other managers should be free to request that
KPI’s be set aside when the need arises. For example, a captained might make it clear that a detour is
being taken to avoid an area where significant storms are expected. In such case, the captain should not
be penalized for delay n arrival and or an increase in fuel consumption.

Despite this captain absolute should also be set for managing performance. For example, health and
safety can never be compromised; neither can the safety of a ship. We must make it clear that
compromises in these areas will never be accepted, even as part of attempts to meet other KPI’s.
Particular care needs to be taken with regards to financial KPIS like return on capital employed, which
increase the risk of shortcut being taken.
Narrative commentary

Finally, reports should always be supplemented by narrative that comments on the individual scores and
also on the overall performance. That means that a manager or ship’s captain who has done badly on
some measures can provide level of explanation for their performance for submitting the report.

Task 2 – Disciplinary Process

As an ethical employer. It is important for us to follow a set disciplinary procedure to ensure all
employee get a fair and equitable hearing, regardless of the reason for the disciplinary case. Therefore
despite the seriousness of this incidents, we must ensure we follow procedure to the letter.

Consequences of unfair process

Should we fair to undertake clear and fail process, this could increase the possibility of us facing a
successful appeal to our procedure, or an employment tribunal for unfair dismissal in the event of
negative result. Any such outcome would damage our reputation as a good employer, and may effect
the moral of our staff, so should be avoided at all costs.

Minimum requirement

Although a disciplinary process can be determined by the individual organization, there will also be
statutory minimum guidelines to follow. We should ideally have published guidelines relating to our
disciplinary process but if not I would recommend the following.

Gather Evidence

We already have initial investigation underway into this incident. However it’s important that the
company launches a full and thorough investigation to gather as much evidence as possible and fully
verify the fact surrounding this case.

For example, we should determine what guidelines are available for the purchasing of navigational parts
and whether this were followed. We may for instance have clear guidelines for the fitting and testing of
navigational parts should meet for those doing purchasing them ?

If this is not obvious, it may be that the procurement staff in question have no disciplinary questions to
answer to. Similarly in relation to the quality control team, we need to understand whether there are
defects in our processes or whether staff simply failed to adequately implement these process.

Provide a statement in writing

If the company decides to continue with either disciplinary case, we should provide the statement to
this effect, explaining to the employees to this question, the reason for the disciplinary process and and
the steps which will follow. This statement could be presented at the informal talk or prior to this taking
place.
Informal Talk

This is an informal chat where the company could lay out its disciplinary process, expectation and the
finding from our evidence gathering. It would also be a chance for us to hear what the affected
employees have to say about the situation.

As there are two separate disciplinary issues here, we should deal with each set of employees
separately. Both group should be made aware of the purpose of these discussions and ask if they want
a representative to accompany them.

Determining an appropriate response.

We should determine our response to each group of employees independently., reflecting the different
nature of the two incidents we are dealing with. For instances if we do uncover a lack of guidelines
regarding the procurement of our navigational parts, this may reduce the severity of our response to the
procurement employees.

Equally if we uncover evidence of negligent practices or guidelines being ignored in the quality control
teams, this is more serious breach and will therefore warrant a more serious response.

Checking options.

We also need to check whether the range of disciplinary options open to us has been published, and the
potential consequences of actions are known by staff. Failure to do this, or implementing
disproportionate punishments could also lead to tribunal situation.

For example, it may be that the company considers the dismissal or suspension of the staff from a
quality control team, if there appears to have been gross misconduct or negligence here, so long as no
extenuating factors are discovered.

Right of appeal. At some point of the process, we will also need to make the employees under
investigation aware of their right to appeal, as well as how this process works. This is a right for all
employees facing disciplinary process.

Benefit of disciplinary process.

The benefit of having disciplinary procedures in place are the employees at all levels know what steps
will be taken in the event of disciplinary procedure being instigated. This should help ensure staff feel
there is a system in place that they can trust. As an employer, using procedures appropriately will
ensure we are meeting our legal obligation as an employer to provide such procedures, preventing the
potential for damage to our image and reputation.
Section 3 – Solution

From – Financial manager

To: bella lim finance director

Subject – Big Data and EPS

Hi Lucas,

Here are my thoughts on how we could benefit from the further use of big data going forward, as well as
potential risk this resources could pose for us, given the new data protection regulation in norland.

I have also discussed how our EPS calculations may be impacted by the various financing options under
consideration as a part of the acquisition of styletours.

Task 1 – Cruisecalm use big data

Mavis omaboe is correct that we have already benefited from use of big data in relation to our
marketing and that its use could be extended throughout company.

Existing use of data in cruisecalm

We currently exploit data via algorithm in our booking system that allow us to maximize revenue by
setting different fares at different times. Our online presence and customer database is also utilized to
provide targeted promotional material through channel like personalized email. We were also the first
cruise line to offer passenger free wi fi connections on all our vessels and this may facilitate increased
data collection.

It should be possible to bring this existing data together in data warehouse to enable standard reports
to be produced including for monthly reporting.

Example where we can use big data analytics

As well as extending our use of big data to those areas mentioned in our risk management report and in
the daily news travel supplement, the following areas could also benefit from use of big data analytics.

Sales forecasting

Through the analysis of data for example external demographics, changing market trends and internal
sales record, we could build models to forecast expected profitability as well as identifying new
destination to deliver our required level of sales.

Social Media

We can communicate directly with customers using social media and through our on board wi fi
something like web chat. We could then use information from these platforms, to gain an insight into
customer preferences, and to gain feedback from customers on new destinations and their board
experiences.

Our services could then be tailored in relation to this information, which could be combined with data
obtained from other sources like market testing to establish any pattern among customers. For example
, we might be able to determine the relationship between specific cruise destination or types and
specific age or income demographics, allowing us to tailor our product offering more appropriately.

Supply chain efficiency

Big data could also be used to ensure we replenish our stores with appropriate volumes and types of
produce, at the port we stop at on our cruises. Using this data to reconcile and forecast shipment needs
would ensure our suppliers have the right produce, in the right volume at the right time and location.

Cruise ship operations

Finally big data may allow us to improve the efficiency of our ships. This may include the optimization of
maintenance activities or fuel consumption, as well as things allowing us to reroute ships away from the
hazards like storms. 2017 saw such an incident, when carnival cruises big data centre scrambled to
reroute ships and reebok embarkation and disembarkation points in the face of hurricane lrma.

Noraland data protection and regulation initiative

Given that we already use some big data analytics in our marketing, for example in production of
personalized email we need to ensure that we are already full compliant with new norland data
protection regulations. If we were to further utilized big data we would have to ensure that any new
initiatives are similar compliant with these new regulations.

This could include carrying out regular risk assessment and developing appropriate staff training in
relation to handling customer data. Extending our use of big data will mean we hold more data on
customers for example via the technology bracelet discussed in the daily news travel supplement. We
must therefore ensure we have appropriate policies in place for dealing with this increase, or we may
face legal ramifications.

Loss and theft of data

Apart from the consequences arising from regulatory breaches as mentioned above, we might find
ourselves open to civil legal action if data were stolen and individuals suffered as a consequence. This
might lead to financial damage to the company in the form of payout to affected parties, but also
significant reputational damage to cruisecalm a whole.

Incorrect Data (Varacity)

If the data held is incorrect or out of date, incorrect conclusion are likely. Even if the data is correct,
some correlation might be spurious leading to false positive results and potentially wrong decision being
made.
Employee Monitoring.

Data collection methods allows employees to be monitored in detail every second of the day. For
example some companies place sensor in name badges so that employee movement and interaction in
work can be monitored.

The information gathered from sensors could be used to improve efficiency, however could easily be
used to put employees under severe pressure and potentially cruise friction with staff. Employees could
reasonably request that such data is deleted after a period of time if it is deemed to fall under the
norland data protection regulation initiative.

Conclusion

It is clear that we could improve and extend our use of big data and that this has potential to provide
wide ranging benefit throughout the organization. We do however need to put in place measures to
mitigate against dangers of big data, especially in response to the new data regulations in norland.

Conclusion

It is clear that we will improve and extend our use big data and that this has the potential to provide
wide ranging benefits throughout the organization. We do however need to put measures to mitigate
against the danger of bog data especially in response to the new data regulation in norland.

Task 2 – Earning Per Share

The earning per share tell an investor how much money a company makes per share. The importance of
EPS of as a performance metric is underpinned by the fact that it is subject of ISA 33 earnings per share ,
which aims to standardize presentation, thereby ensuring comparability between different entities.

Right Issue

A rights issue gives shareholders the option to buy freshly issue shares, which have to be issued at
discount, in our example 25% discount at present market price, otherwise the issue will fail.

Two Elements

IAS 33 essentially splits the rights issue into two elements: the first being the funds raised from issue,
which are treated as having been from new shares that were issued at their full market price and the
second being the bonus elements.

Issue at full market price elements

We deal with the first elements by basing EPS on the weighted average of the shares in issue throughout
the year. This is done on a time weighted basis. For example, if we have 1000 shares at the start of the
year and issued further 100 shares at a full market price on day 270 of the year, then the weighted
average would be (1000*270/365) + ( 1100*95/365) = 1026. In theory that gives the valid basis for EPS
because we have the traditional funds from the issue available to make profit for the letter 95 days of
the financial year.

Bonus elements

The second element of right issue is treated in the same way as a bonus issue. Effectively we are diluting
the shares in issue by giving those shares away free of charge.

We can deal with the element by restating last year comparative EPS on the assumption that the bonus
issue had taken place at the beginning of the year. We also assume that the shares has been in issue
throughout the present year.

If the right issue in the previous example had issued a further 100 shares and the present year on the
basis of 1126 shares.

Effect of right issue on EPS

The right issue will almost certainly reduce our EPS and we may have to be prepared to reassure our
shareholder. The newly issued shares unlikely to generate significant returns, if any straight away and so
earnings are unlikely to increase in the line with the number of shares.

The bonus elements definitely dilute EPS and shargholder may base their comparison on last year
reported figures rather than comparative published this year. The extent of this dilution will be related
to the size of the issue and the extent of the discount implied by the issue price.

Overall the right issue can be viewed as a hybrid of an issue at full market price and a bonus issue.

Share Exchange

Ross Johson correct to say that a share exchange could be used to acquire a smaller company such as
styletours. A share exchange is where two entities exchange shares, for example we could accquire
shares in styletours in exchange of issuing given number of our own shares.

Effect of share exchange on EPS

Where an entity issues shares during the year as a payment of shares in new subsidiary these are
included in the weighting calculation as of the date on which the acquisition is recognized. In the EPS
calculation the weighting of the shares will be treated the same as an issue at full market price.

Regards

Financial manager
Section 4 - Solution

From Financial manager

To Bella Lim Finance Director

Subject – Balance Scorecard and Implementation of MIRR

HI Lucas

I have provided my thought on how we should proceed with implementing a balance scorecard
throughout the organization. This will clearly require significant leadership skills and buy inform senior
management.

I have also provided my analysis of the main benefits and drawback of using the MIRR technique
compared to IRR and NPV techniques for assessing new projects using the calculation we have provided.

Balance Scorecard Implementation

Senior Management Buy in

Support at a senior level vital for implementing balance scorecard. If an initiative is seen as a pet project
of an individual or a small group the chances of it wider acceptance and implementation is severely
limited.

Fundamental to successful strategy implementation of this project will be the total and visible “buy in”
of all members of our senior management team. Failure to achieve buy in from top management, may
well lead to a failure in the implementation of the balance scorecard at cruisecalm.

Scorecard Champion

It will be important to appoint a champion or sponsor for the score card process to act in the role of
architect and lead to the organization through the implementation phase. Whilst it is not necessary for
the architect to be a member of senior leadership, this is pivotal role requiring a strong and well
established leader who can influence all level of our organization.

Establish a working group

It will also be important to establish a working group. This should be multi functional team, with key
representative from each part of the business. The overall strategy of the business should form the basis
of the scorecard, and the key measures that it would contain. Given our aim of being the leading luxury
cruise company in the market, we should look to include measures related to our financial growth.
These might include average customer selling price, quality of our cruises and on board activities,
number of destination, as well as linkage to our customer satisfaction.
Defining the objective Measures

Detailed work should be undertaken by the working group to select and clearly define the objective
measures to be used. As the basis for the balance scorecard design, the working group could adopot
classic four quadrants originally design by kalpan and Norton.

Key Principal.

In choosing the objective and measures in each segment, the key principal that the team could follow
are:

Objectives linked to overall strategy

All the objectives must link directly towards achieving cruisecalm overall strategy and vision. We cant
allow our selection of objectives and measures to be driven simply by factors that are easy to measures
or have always been measured by organization, such as return on capital employed.

Clearly defined measures

Each of the measures must also be clearly defined, must be capable of quantitative measurement and
must be verifiable. For instance, important measures such as customer and employee satisfaction, may
be readily analysed by method and surveys. The availability of online resources like social media, also
provide us with the further options in this area.

Taking the example of customer satisfaction, we could used KPI linked to guest ratings and customer
feedback, for example through sites like tripadvisor or feefo, to measure our performance in this area.
One of our competitors curnard cruises, features customer review provided by feefo on its main web
page which contain an average customer rating.

Leading Measures.

The objectives and measures to should include a significant proportion of leading measures which give
an indication of future progress, for example traning level of staff. This should be in addition to lagging
measures for example return on capital employed.

Launching the balance scorecard.

Once the key features and detailed performance measures for the scorecard have been agreed with the
board, full communication regarding the project should take place throughout the organization. This
should include an explanation of the purpose of the balance scorecard, its links to cruisecalm strategy
and its relevance for all employees. We should also allow ample opportunity for employee question and
comment. If implemented correctly the balance scorecard should provide the improved reporting the
board is seeking. It may also help us avoid some of the dysfunctional behavior which has previously
arisen due to some of our existing KPIS.
Implementation and way forward

The information generated by the balance scorecard could be published and used as a key driver of
discussion both at board level and functional level. Employee should able to identify how their roles and
action relate directly to our strategy, while manager should find it easier to determine employee targets.
This should enable more productive discussions at any staff personnel review meetings.

Feedback

Finally, it will be important to take advantage of the valuable feedback opportunities provided by
balance scorecard. We could use this feedback for the recommendation to the board on areas where
gaps in our strategy could be addressed or potential improvements implemented.

Task 2 – Modified Internal Rate of Return

The modified internal rate of return is the internal rate of return of an investment that is modified to
account for the difference between reinvestment rate and the rate of return.

Advantage of MIRR vs IRR

While IRR is the very popular metrics in estimating a projects profitability, it can be misleading if used
alone. Depending on the initial investment costs, a project may have a low IRR but high NPV, meaning
that while the peace at which the company sees the returns on that project may be slow, the project
may also be adding the great deal of overall value of the company.

Common misuse of IRR

Another issue with IRR is one not strictly inherent to the metric itself, but in relation to the common
misuses of IRR. People may assume tha, when positive cash flow generated during the course of the
project (not at the end) the money will be reinvested at the projects rate of return. This can rarely be
the case.

Rather, when positive cash flow are reinvested, it will be at a rate that more resembles the cost of
capital. Miscalculation using IRR in this way may lead to the belief that a project is more profitable than
it actually is.

This, along with the fact that long projects with fluctuating cash flow may have multiple distinct IRR
values, has prompted the use of another metric called modified internal rate of return.

How MIRR adjust IRR

MIRR adjust the IRR to correct this issues, incorporating the cost of capital as the rate at which the cash
flows are reinvested and existing as a single value. Because of MIRR correction of the former issue of
IRR, a project MIRR will often be significantly lower than same projects IRR.
Eliminates possibility of multiple rates of return

MIRR is intended to address some of the deficiencies of IRR. Notably it eliminates the possibilities of
multiple rates of return and seeks to adjust the IRR., so that it has same reinvestment assumption as
NPV (the cash inflows of a project are reinvested at the company cost of capital.)

Based on our cost of capital

For our proposed renovation investment, an MIRR of 15.5% has been calculated. This is a better
measure than the IRR of 19% that has been calculated because of its assumption that the reinvestment
of cash flow is at our cost of capital and not at the IRR rate itself.

Consistency with NPV rule

MIRR ranking are also consistent with the NPV rule, which is not always the case with IRR. The MIRR
actually measures the percentage return generated by the projects over its life and so can be easily
compared to the risk adjusted cost of capital to decide if the project is worthwhile.

Weakness of MIRR

MIRR does not have number of weakness however. For example, if the actual reinvestment of the
project is greater than its cost of capital, then MIRR will underestimate the projects true return. This
could lead to potential projects being rejected unnecessarily

The determination of the life of the project can also have significant effect on the actual MIRR, if the
difference between the projects IRR and the entity cost of capital is large.

Advantage of MIRR vs NPV.

Biased towards short pay period

The MIRR like IRR, is biased towards project with short pay back period which is not the case with NPV.
It could be argued that this bias is advantageous as a short pay back means that funds are available
earlier for reinvestment.

Weakness of MIRR vs NPV

However MIRR (again life IRR ) gives a rate and as such gives no indication of th size of project, unlike
NPV which does do this. Again like IRR, MIRR also doesnot give an indication of the absolute gain (or
Loss) in shareholder value.

Not well understood

Ultimately despite its advantages, MIRR does not appear to be understood or used as extensively in
practice as NPV and IRR. In practice NPV is usually the preferred method for investment appraisal
including this project though it is difficult to apply to potential new opportunities due to the uncertainty
of potential cash flow.
Overall impact on share holder value.

The proposed project demonstrate the positive NPV of N$12.16m at a discount rate that reflect the
specific risk of project. As we would expect the positive NPV, the room project IRR and MIRR shows the
return greater than this risk adjusted cost of capital of 10%. This project should therefore contribute to
our objective of achieving a return on shareholder funds and therefore increase the shareholder value.

Regards

Financial Manager