Section G Financial Appraisal7

1 Cash versus Profit

It is important to realise the difference between these two concepts. Cash is a liquid asset owned by a business, enabling it to buy goods and services, whereas profit is only an accounting measure of the difference between sales revenue and business expenses. Tabulations in paragraphs 1.1 to 1.3 illustrate a worked example, showing how the two are related. If a project needs financing, it usually implies that cash is required.

1.1 Project Parameters

Cost of Project £150 m
Annual Revenue £150 m
Annual Costs £ 50 m
Life of Project 5 Years
End Value Nil

1.2 Cash Flow

Year: 1 2 3 4 5 6
Revenue 150 150 150 150 150   0
Costs  50  50  50  50  50   0
Capital 150   0   0   0   0   0
–50 100 100 100 100   0 Total £350 m
Tax 50%  35  35  35  35   35
Cash –50  65  65  65  65 – 35 Total £175 m

1.3 Profit & Loss

Revenue 150 150 150 150 150 0
Cost  50  50  50  50  50 0
Depreciation  30  30  30  30  30 0
 70  70  70  70  70 0 Total £350 m
Tax @ 50%  35  35  35  35  35 0
 35  35  35  35  35 0 Total £175 m

1.4

It should be noted that not only is the project short of (£50 m) cash to finance the project but also, (since the accountants have made a profit) needs £35 m cash to pay the taxman and a further £35 m has to be found to pay the shareholders a dividend.

1.5

Other costs can also ...

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