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Unformatted text preview: 31Typical Capital Budgeting DecisionsCapital budgeting tends to fall into two broadcategories . .oScreening decisions Does a proposed projectmeet sotne preset standard of acceptance?€Preference decisions. Selecting from amongseveral competing courses of actionGapital Budgeting DecisionsChapter ThirteenTypical Capital Budgeting DecisionsEquipment replacementTime Value of MoneyA dollar today is worthmore than a dollar ayear from now.Therefore, investmentsthat promise earlierreturns are preferable tothose that promise laterreturnsLearning Objective 1Time Value of MoneyThe capitalbudgetingtechniques that bestrecognize the timevalue of money arethose that involvediscounted cashflows.The Net Present Value MethodTo determine net present value we . . .OGalculate tle present value of cash inflows,ACalculate the present vaiue of cash outflows,Osubtract ttrc present value of the outflows from thepresent value of the inflowsThe Net Present Value MethodGeneral decision rulelf the Net PresentValue is  ; Aceptable, since il promises a; P6itive . .  return great€r thiluthe requiredI tueptable, sine it promises a1 bto. . ret" *"1;:fl?required ratej Not aceptable, sine it promisesi Negative. . , a return less than the requiredrate of return.32Typical Cash OutflowsRecovery of the Original lnvestmentThe Net Present Value MethodNet present value analysisemphasizes cash flows and notaccounting net incomeTypical Cash lnflowsReductionof costslncrementalrevenuesRecovery of the Original lnvestmentCarver Hospital is considering the purchase of anattachment for its Xray machineCod $3,170Life 4 yearsSalvage value zerolncreasB in annual cash inflows 1,000No investments are to be made unless they havean annual return of at least '10%Will we be allowed to invest in the attachment?JJRecovery of the Original lnvestmentPe.iod3 1O./.1 09091 O 9O9 Otfr O A772 1.736 /rf69o 1 6473 2.447 t 2.402 2.322l z rto/ J o37 2.9145 3791 3605 3433Recovery of the Original Investment(1) l2l (3) (4)1 S 3.17t51,A0A S 317S 68?$ 2.487Recover of Unrecoveredlnvestment lnvelment lnve$flent atOutdanding Return on during the the end oftheduring the Cash lnvedment yeat yearYear year lnflow (1i / 1o'/a (2)  (3) (1)  (4)2 S 2,487 S 1.00A S 249 $ 751 S 1.7363 S 1,735 S 1,000 S 173 S B?7 I sos4 5 909 S 1.000 5 91 S SCe 5otal investment recovered $ 3,170This implies that the cash inflows are sufticient to recover the $3,170initial investment (therefore depreciation is unnecessary) and toprovide exactly a 10% retum on the investment.Two Simplifying AssumptionsTwo simplifying assumptions are usually madein net present value analysis:: All cash flowsaancafsi hw anM"xreinvested at a rate ofreturn equal to thediscount rate....
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This note was uploaded on 09/08/2010 for the course BUS 21 at San Jose State University .
 '09
 Buck,Carroll

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