Risk Analysis on Investment Decision

Risk Analysis on Investment Decision

Silicon Arts, Inc. is a successful semiconductor manufacturer that focuses on digital imaging Integrated Circuits (ICs) for many different consumer and high precision electronics. From digital cameras to medical instrumentation, Silicon Art’s products can be found as the heart of these electronics. Given the current sales turnover of $180 million, the company is poised for growth with available free cash flow and fresh investment dollars to fund new opportunities. In the simulation, two potential expansion plans is considered. It is cleared at the simulation level that the Company will only have the financial and human resource to engage into one of these projects. Therefore, a careful analysis of Net Present Value (NPV), Internal Rate of Return (IRR), and Profitability Index (PI) to determine the project of choice for the company’s upcoming expansion strategy.

For quick reference, Net Present Value is an indicator of how much a project will add value to the company. Internal Rate of Return is a measure of how efficient the project is to the company. Profitability Index considers the ratio between future cash flows and initial investment of the project. These metrics, when considered together, gives a clear indication of how well an investment will perform against each other for the company, and then an ultimate choice is then selected for the company to execute. Given the management’s inability to come to a consensus before the study was conducted, a financial recommendation will help guide the senior management on the right path to decide which project is the best option for the company.

The first project being considered is an expansion of manufacturing capacity of the Company’s existing IC, which has the potential to increase market share from 18% and provide a good competitive advantage in the IC manufacturing market. It is forecasted that this project alone will account for 30% of the Company’s annual revenue during the 5-year period. Given the existing experience and knowledge about the IC market, Silicon Arts, Inc. (SAI) has a good chance of hitting the projected sales forecast, thus putting the company in sound financial performance status for the next 5 years. In addition, a previously acquired real estate allows the company immediate action in production line construction as well as rapid manufacturing equipment deployment as they also have good existing relationship with their equipment suppliers.

However, the second project is just as appealing. With a wide consumer market penetration, wireless communication is now considered as an essential consumer item. SAI’s proposal calls for a new manufacturing division for data communication chipset for data-enabled wireless devices. The Company has previously developed IC 1032, a specialized chipset used in data phones, has good performance potential during their testing. In addition, the span of the project is 7 years, 2 years more than their Digital Imaging proposal, which has the potential to generate a bigger sales volume and revenue for the Company. Even though the initial investment will be higher as the Company is entering into a new market, the lucrative potential of the wireless phone communication chipset makes it worthwhile for consideration.

Given the potential of these markets, it