mac2602Topic 8 - Capital investments.pdf - 193 TOPIC 8 Capital investments and capital budgeting techniques SU 19 – Capital investments Objective of

mac2602Topic 8 - Capital investments.pdf - 193 TOPIC 8...

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193 MAC2602 © Edge Business School TOPIC 8: Capital investments and capital budgeting techniques SU 19 – Capital investments Objective of capital investments FINANCIAL MANAGEMENT Objective: Maximising long term sustainable wealth (Cost of financing < Return on investment) FINANCING DECISIONS Objective: Obtaining funds with the minimum effective cost INVESTMENT DECISIONS Objective: Investing in sustainable projects with maximum long term returns Capital investments/expenditure (also called CAPEX): Long term assets (non-current) that generates returns (cash inflows) over a number of years. Sustainable capital budgeting: Planning and evaluation of how funds are spent on capital investments while taking qualitative factors into account. Project analysis process Proposal generation •The gathering of information, both financial and non financial Project evaluation •Do a comparison of the proposals. The risk associated with each project should be analysed. Quantitative factors should also be taken into account Project selection Implementation, monitoring and post implementation audit •Capital investment criteria should be compiled to judge the attractiveness of the projects Prepare capital budget to get authorisation Review the performance of the project (Compare actual performance to original estimates)
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194 MAC2602 © Edge Business School Types of capital expenditure Major repair or upgrade : restores the asset to its previous condition and output capacity Replacement : done when it’s irreparable, worn out or damaged. It involves the replacement of the asset with a similar or updated one Expansion : producing new products, entering into a new market or increasing capacity Classification of projects Independent projects o projects with unrelated cash flows o the projects do not compete with one another o both these projects can be accepted if they meet the criteria Mutually exclusive projects o competing alternatives o only ONE can be accepted Contingent projects o projects, of which the acceptance depends on the acceptance of another project o not in your syllabus Divisible and indivisible projects o divisible = the project can be broken down into smaller parts that can be executed on their own o indivisible = the project cannot be broken down in subpart, and has to be undertaken in its entirety Factors affecting the capital budgeting decision Availability of funds Capital structure Legal factors Lending policies of financial institutions Need for the project Future earnings
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195 MAC2602 © Edge Business School Risks and uncertainties o life of project o environmental, social and governance impact o duration of construction phase o recoupment value and working capital o capacity (output units) of project o selling price of product o demand of the product o competitors reaction o SARS allowances o production cost o successful implementation o inflation rates o exchange rates o tax rates Cash flows Concept Detail Relevant cash flows
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