NPV_ch6

NPV_ch6 - EC150: Financial Economics SLIDE SET 5: NPV AND...

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Unformatted text preview: EC150: Financial Economics SLIDE SET 5: NPV AND OTHER APPROACHES TO CAPITAL BUDGETING AND CORPORATE INVESTMENT (BASED ON RWJ CHAPTER 6) Capital Budgeting: Deciding what investments the company should make. Four Criteria that a good procedure for evaluating proposed investments should meet. (1) Base the analysis on incremental costs and benefits, and dont arbitrarily exclude any costs or benefits from the analysis. (2) Measure costs and benefits based on cash flows, not earnings. (3) Allow for time value of money and for the risk involved. (4) If forced to choose among proposals, select the one that does shareholders the most good. NPV Analysis Our recommended approach to evaluating proposed investments is Net Present Value (NPV) analysis. NPV = Present Value of the Incremental Benefits - Present Value of Incremental Costs. NPV-based decision rules: When evaluating independent projects, take those with positive NPVs, reject those with negative NPVs. When evaluating interdependent projects, take the combination with the highest combined NPV. Lockheed Tri-Star Forecast the cash flows associated with the Tri-Star project for a volume of 210 planes. What is the NPV of the Tri-Star project at a volume of 210 planes in 1967. Lockheed Tri-Star Key Points Pre-production costs of $900 million incurred between 1967 and 1971. Total of 210 planes delivered from 1972-1977 Revenues of $16 million per unit, 25% of revenue received 2 years in advance....
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This note was uploaded on 03/26/2008 for the course EC 150 taught by Professor Kutsoati during the Spring '08 term at Tufts.

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NPV_ch6 - EC150: Financial Economics SLIDE SET 5: NPV AND...

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