Net present value rule If the NPV is positive then it will increase the firms

# Net present value rule if the npv is positive then it

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Net present value rule: If the NPV is positive then it will increase the firms share price and we should take on this project, if it is negative it will lower the share price therefore we should not take it on - A NPV of \$1000 would lead to an increase in the share price (value) of 1000/(x number of shares) = an increase of x\$/share Payback period: The amount of time required for an investment to generate cash flows to recover its initial cost Payback rule: An investment is acceptable if its calculated payback is less than some previously specified number of years - Advantages o Easy to understand o Adjusts for uncertainty of later cash flows o biased towards liquidity - Disadvantages o ignores the time value of money o Requires an arbitrary cut of point o ignores cash flows beyond the cutoff point o Biased against long term project o ignores any risks associated with projects Discounted payback Rule: An investment is acceptable if its discounted payback is less than some number of years - Period : The length of time required for an investment discounted cash flows to equal its initial cost Average accounting return (AAR) = Average net income/average book value Internal rate of return (IRR): the return that results in a zero NPV when it is used as the discount rate Investmetn decisond – making under uncertantiy: possible criteria 1. maximum return o ie. R of r = 50>rd = 26 therefore we choose investment f

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2. maximum expected return o St. Petersberg’s paradox 3. Expected Utility - Maximise expected utility = f unction of consumption -> f(consumption) o consumption = function of wealth -> g(wealth) o wealth = function of return -> j(return) max utility = f(g(j(return) 4. Mean variance criteria o distributional assumption asset returns follow a normal distribution described entirely by the 1 st (mean) and 2 nd moments (varience)
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