Chapter 8. Cap budgeting - Cash flow analysis

Chapter 8. Cap budgeting - Cash flow analysis - Capital...

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Capital budgeting - Cash flow analysis Chapter 8 Finance 357
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Incremental Cash Flows In finance, cash flows are what determines the value of projects and companies. When we analyze a project, it is important to only use cash flows that are incremental to the project. In other words, if we would normally get a cash flow without doing the project, don’t include that cash flow when analyzing the project. Costs that have already occurred are called sunk costs , and should never be used to value a new project.
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Other Costs When considering a project, we should consider opportunity costs. For example, if our company is considering selling a warehouse that we own, but instead we use the warehouse for a new project, the cost of the warehouse should be included as a cost in our project analysis. It is an opportunity cost. It is also important to consider indirect costs to a project, such as erosion. Erosion occurs when a project will cause the cash flows of another project to decrease.
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Allocated Costs It is common that a single expenditure will benefit multiple projects. Accountants will spread the cost of this expenditure over the projects that benefit form it. However, this allocated cost should only be viewed as a cash outflow of a project if it is an incremental cost of the project.
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Inflation and Capital Budgeting Just as with rates of return, Inflation
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This note was uploaded on 11/09/2010 for the course FIN 357 taught by Professor Hadaway during the Spring '06 term at University of Texas at Austin.

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Chapter 8. Cap budgeting - Cash flow analysis - Capital...

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