Topic05_capbud1[1]

Topic05_capbud1[1] - Thomas Moeller FINA 30153: Financial...

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Thomas Moeller FINA 30153: Financial Management 1 Topic 5 Capital budgeting I Objectives 1. Understand goal of capital budgeting 2. Explore capital budgeting methods 3. Understand IRR complications
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Thomas Moeller FINA 30153: Financial Management 2 1. Capital Budgeting Capital budgeting deals with decisions where: a) time is an important element of the decision. b) cash flows of investment can be measured. c) there may be important uncertainties. Classification of decisions: a) Accept or reject (independent) b) Best of a set (mutually exclusive) c) Ranking (independent and limited cash) Financial managers should accept a project when perceived benefits exceed perceived costs. Value is created when benefits of decision exceed costs.
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Thomas Moeller FINA 30153: Financial Management 3 Projects with positive net present value (NPV > 0) create value because benefits of decision exceed costs. Market Value ($) Assets Reject Project X Accept Project X Cash 100 0 Other assets 900 900 Project X 0 PV Total 1,000 900 + PV If the firm rejects project X, then the value of the firm is $1,000. If the firm accepts project X, then the value of the firm is $900 + PV. Thus, the firm should accept the project if
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FINA 30153: Financial Management 4 2. Methods of Capital Budgeting Net present value (NPV) - Present value of all cash inflows from the project minus the present value of all cash outflows. - Decision rule:
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This note was uploaded on 04/21/2008 for the course FINA 30153 taught by Professor Moeller during the Spring '08 term at TCU.

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Topic05_capbud1[1] - Thomas Moeller FINA 30153: Financial...

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