FIN+4414+-+Capital+Budgeting+-+Basics+-+Chapter+11

FIN+4414+-+Capital+Budgeting+-+Basics+-+Chapter+11 -...

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Capital Budgeting: Basics
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Capital Budgeting Classifications Replacement Maintenance Cost Reduction Expansion Existing Product/Markets New Products/Markets Safety/Environmental Projects Other Projects
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Capital Budgeting Procedures Estimate cash inflows/outflows. Assess riskiness of the cash flows and determine r (WACC on a risk-adjusted basis) Find NPV and/or IRR Accept if NPV > 0 and/or IRR > WACC
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Capital Budgeting: Cash Flows Project A Project B Year Cash Flow Cash Flow 0 -$100.00 -$100.00 1 $10.00 $50.00 2 $30.00 $60.00 3 $60.00 $30.00 4 $80.00 $20.00 Total $180.00 $160.00
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Payback Period Number of Years to recover the initial cost of the investment: PB A $100 = $10 + $30 + $60 PB A = 3 years PB B $100 = $50 + ($60)(5/6) PB B = 1 + 5/6 years = 1.83 years
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PVPB A = 3.30 years ($17.58/$58.59) PVPB B = 2.09 years ($ 2.26/$23.81) Present Value Payback Project A Project A Project B Project B Year PV at 8% PV Total PV at 8% PV Total 1 $9.25 $9.25 $46.30 $46.30 2 $25.67 $34.92 $51.44 $97.74 3 $47.50 $82.42 $23.81 $121.55 4 $58.59 $141.01 $14.70 $136.25 Total $141.01 $141.01 $136.25 $136.25
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Net Present Value Present value of inflows minus the present value of outflows (costs).
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FIN+4414+-+Capital+Budgeting+-+Basics+-+Chapter+11 -...

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