Topic 6 - Topic 6 Fundamental of Capital Budgeting Capital...

Info icon This preview shows pages 1–7. Sign up to view the full content.

View Full Document Right Arrow Icon
Topic 6 Fundamental of Capital Budgeting
Image of page 1

Info iconThis preview has intentionally blurred sections. Sign up to view the full version.

View Full Document Right Arrow Icon
Capital Budgeting Process A capital budget lists the projects and investments that a company plans to undertake during future years. To create this list, firms analyze alternate projects and decide which ones to accept through a process called capital budgeting. This process begin with forecasts of each project’s future consequences for the firms such as the effect on revenues, or costs. Our goal is to determine the effect of the decision to accept or reject a project on the firm cash flows and work out NPV to assess the consequence of the decision on the firm’s value.
Image of page 2
Capital Budgeting Process Ø Step by step: Forecast Incremental Earning Determine Incremental Free Cash Flows Identify other effects on Incremental cash flows Analyzing the project Real Options in Capital budgeting
Image of page 3

Info iconThis preview has intentionally blurred sections. Sign up to view the full version.

View Full Document Right Arrow Icon
Forecasting Incremental Earning Earning are not actual cash flows Incremental earnings of a project is the amount by which the firm’s earnings are expected to change as a result of the investment decision. Example 1: You are considering whether to upgrade your manufacturing plant and increase its capacity by purchasing a new piece of equipment. The equipment costs $1million, plus an additional $20,000 to transport it and install it. You will also spend $50,00 on engineering costs to redesign the plant to accommodate the
Image of page 4
Operating expenses vs. Capital expenditures Upfront investment: marketing survey, develop a prototype, and launch an ad campaign…We call they are operating expenses in the year that they are incurred. Investments in plant, property or equipment called capital expenditures, and they are not listed as expenses when calculating earnings. Instead the firm deducts a fraction of the cost each year as depreciation.
Image of page 5

Info iconThis preview has intentionally blurred sections. Sign up to view the full version.

View Full Document Right Arrow Icon
Operating expenses vs. Capital expenditures In the below example, firm spent total $1,020,000 for purchasing, transporting and installing the equipment. Assume this equipment has a depreciable life of 5 years and this firm choose to use straight-line depreciation method.
Image of page 6
Image of page 7
This is the end of the preview. Sign up to access the rest of the document.

{[ snackBarMessage ]}

What students are saying

  • Left Quote Icon

    As a current student on this bumpy collegiate pathway, I stumbled upon Course Hero, where I can find study resources for nearly all my courses, get online help from tutors 24/7, and even share my old projects, papers, and lecture notes with other students.

    Student Picture

    Kiran Temple University Fox School of Business ‘17, Course Hero Intern

  • Left Quote Icon

    I cannot even describe how much Course Hero helped me this summer. It’s truly become something I can always rely on and help me. In the end, I was not only able to survive summer classes, but I was able to thrive thanks to Course Hero.

    Student Picture

    Dana University of Pennsylvania ‘17, Course Hero Intern

  • Left Quote Icon

    The ability to access any university’s resources through Course Hero proved invaluable in my case. I was behind on Tulane coursework and actually used UCLA’s materials to help me move forward and get everything together on time.

    Student Picture

    Jill Tulane University ‘16, Course Hero Intern