DecisionCriteria

DecisionCriteria - CapitalBudgeting:DecisionCriteria

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Capital Budgeting: Decision Criteria FINC 3630 Yost Capital Budgeting: Decision Criteria Example Consider a firm with two projects, A and B, each with the following cash flows and a 10 percent cost of capital: Project AP r o j e c t B Year Cash Flows Cash Flows 0 $100 $150 1 $70 $100 2 $70 $100 Net Present Value (NPV) What is it? Measure of value creation from project How do I do it? PV of future CFs–Initial Cost The Investment Rule: Accept projects with positive NPV and accept highest NPV first
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Capital Budgeting: Decision Criteria FINC 3630 Yost Net Present Value (NPV) Pros: Uses all cash flows Incorporates time value of money Directly related to EVA Cons: Need appropriate discount rate Relatively more difficult to explain Internal Rate of Return (IRR) What is it? Discount rate that makes the NPV = 0 How do I do it? Set NPV = 0 and solve for discount rate The Investment Rule: Accept if IRR is greater than required rate of return and accept highest IRR first Internal Rate of Return (IRR) Pros: Closely related to NPV, leads to same decision MOST of the time Relatively more easy to explain Cons: May result in multiple answers May result in incorrect decisions
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DecisionCriteria - CapitalBudgeting:DecisionCriteria

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