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Unformatted text preview: 111CHAPTER 11The Basics of Capital BudgetingShould we build thisplant?112What is capital budgeting?Analysis of potential additions to fixed assets investment analysis.Longterm decisions; involve large expenditures (see p. 359360).Very important to firms future (see Airbus, Boeing p. 357358).113Steps to capital budgeting1.Estimate CFs (inflows & outflows).2.Assess riskiness of CFs.3.Determine the appropriate cost of capital (%).4.Find NPV ($), IRR (%) and/or MIRR (%).5.Accept if NPV > 0 and/or IRR > WACC.114What is the difference between independent and mutually exclusive projects?Independent projects if the cash flows of one are unaffected by the acceptance of the other more than one project may be accepted.Mutually exclusive projects if the cash flows of one project can be adversely impacted by the acceptance of the other accept one or the other.115An Example of Mutually Exclusive ProjectsBRIDGE vs. BOAT to get products across a river.116What is the difference between normal and nonnormal cash flow streams?Normal cash flow stream Cost (negative CF) followed by a series of positive cash inflows. One change of signs.Nonnormal cash flow stream Two or more changes of signs. Most common: Cost (negative CF), then string of positive CFs, then cost to close project. Nuclear power plant, strip mine, etc.117Inflow (+) or Outflow () in Year12345NNN+++++N++++NN+++N+++N+++NN118Net Present Value (NPV)Sum of the PVs of all cash inflows and outflows of a project:=+=Nttt)r 1 (CF NPV 119Calculating paybackPaybackL= 2 + / = 2.375 yearsCFt100 10 60 100Cumulative 100 90 0 50123=2.430808030Project LPaybackS= 1 + / = 1.6 yearsCFt100 70 100 20Cumulative 100 0 20 40123=1.630505030Project S1110What is Project Ls NPV @ 10%?Year CFtPV of CFt 0100 $100 1 10 9.09 2 60 49.59 3 80 60.11 NPVL = $18.79NPVS = $19.98 @ 10%1111Solving for NPV:Financial calculator solutionEnter CFs into the calculators CFj register....
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 Fall '11
 STAFF

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