The term capital budgeting is used to describe how managers plan significant cash outlays on projects that have long-term implications, such as the purchase of new equipment and the introduction of new products. This chapter describes several tools that can be used by managers to help make these types of investment decisions. | Capital Budgeting Decisions Chapter 13 McGraw-Hill/Irwin Copyright © 2012 by The McGraw-Hill Companies, Inc. All rights reserved. Chapter 13: Capital Budgeting Decisions The term capital budgeting is used to describe how managers plan significant cash outlays on projects that have long-term implications, such as the purchase of new equipment and the introduction of new products. This chapter describes several tools that can be used by managers to help make these types of investment decisions. The Net Present Value Method The net present value is interpreted as follows: If the net present value is positive, then the project is acceptable. If the net present value is zero, then the project is acceptable. If the net present value is negative, then the project is not acceptable. Typical Cash Outflows Repairs and maintenance Incremental operating costs Initial investment Working capital Examples of typical cash outflows that are included in net present value calculations are as shown. . | Capital Budgeting Decisions Chapter 13 McGraw-Hill/Irwin Copyright © 2012 by The McGraw-Hill Companies, Inc. All rights reserved. Chapter 13: Capital Budgeting Decisions The term capital budgeting is used to describe how managers plan significant cash outlays on projects that have long-term implications, such as the purchase of new equipment and the introduction of new products. This chapter describes several tools that can be used by managers to help make these types of investment decisions. The Net Present Value Method The net present value is interpreted as follows: If the net present value is positive, then the project is acceptable. If the net present value is zero, then the project is acceptable. If the net present value is negative, then the project is not acceptable. Typical Cash Outflows Repairs and maintenance Incremental operating costs Initial investment Working capital Examples of typical cash outflows that are included in net present value calculations are as shown. Notice the term working capital which is defined as current assets less current liabilities. The initial investment in working capital is a cash outflow at the beginning of the project for items such as inventories. It is recaptured at the end of the project when working capital is no longer required. Thus, working capital is recognized as a cash outflow at the beginning of the project and a cash inflow at the end of the project. Typical Cash Inflows Reduction of costs Salvage value Incremental revenues Release of working capital Examples of typical cash inflows that are included in net present value calculations are as shown. Internal Rate of Return Method General decision rule . . . When using the internal rate of return, the cost of capital acts as a hurdle rate that a project must clear for acceptance. If the internal rate of return is equal to or greater than the minimum required rate of return, then the project is acceptable. If it is less than the required rate of return, then the
