Chapter 25 - Capital budgeting and managerial decisions. After completing this chapter you should be able to: Describe the importance of relevant costs for short-term decisions, evaluate short-term managerial decisions using relevant costs, analyze a capital investment project using break-even time, compute payback period and describe its use. | CAPITAL BUDGETING AND MANAGERIAL DECISIONS Chapter 25 Chapter 25: Capital Budgeting and Managerial Decisions Capital budgeting: Analyzing alternative long- term investments and deciding which assets to acquire or sell. Outcome is uncertain. Large amounts of money are usually involved. Investment involves a long-term commitment. Decision may be difficult or impossible to reverse. CAPITAL BUDGETING Capital budgeting is the process of analyzing alternative long-term investments and deciding which assets to acquire or sell. These decisions can involve developing a new product or process, buying a new machine or a new building, or acquiring an entire company. An objective for these decisions is to earn a satisfactory return on investment. Capital budgeting decisions require careful analysis because they are usually the most difficult and risky decisions that managers make. Specifically, a capital budgeting decision is risky because (1) the outcome is uncertain, (2) large amounts of money are usually involved, (3) the investment involves a long-term commitment, and (4) the decision could be difficult or impossible to reverse, no matter how poor it turns out to be. Risk is especially high for investments in technology due to innovations and uncertainty. Capital budgeting decisions often involve plant expansion issues, equipment selection, and equipment replacement. PAYBACK PERIOD The payback period of an investment is the time expected to recover the initial investment amount. Managers prefer investing in projects with shorter payback periods. P 1 The payback period is the length of time it takes a project to recover its initial cost. When the annual net cash inflows are equal in each year, we can calculate the payback period by dividing the investment required by the net annual cash inflows. All other things equal, a shorter payback period is better than a longer payback period. ACCOUNTING RATE OF RETURN P 2 Choose the project with the least risk, the shortest payback | CAPITAL BUDGETING AND MANAGERIAL DECISIONS Chapter 25 Chapter 25: Capital Budgeting and Managerial Decisions Capital budgeting: Analyzing alternative long- term investments and deciding which assets to acquire or sell. Outcome is uncertain. Large amounts of money are usually involved. Investment involves a long-term commitment. Decision may be difficult or impossible to reverse. CAPITAL BUDGETING Capital budgeting is the process of analyzing alternative long-term investments and deciding which assets to acquire or sell. These decisions can involve developing a new product or process, buying a new machine or a new building, or acquiring an entire company. An objective for these decisions is to earn a satisfactory return on investment. Capital budgeting decisions require careful analysis because they are usually the most difficult and risky decisions that managers make. Specifically, a capital budgeting decision is risky because (1) the outcome is uncertain, (2) large amounts of money
