Internet Explore the Capital Budgeting Techniques Research Paper

Pages: 3 (746 words)  ·  Style: APA  ·  Bibliography Sources: 1  ·  File: .docx  ·  Level: College Senior  ·  Topic: Economics

¶ … internet explore the capital budgeting techniques used in the lesson: NP, PI, IRR and Payback. Compare and contrast each of the techniques with an emphasis on comparative strengths and weaknesses. Be sure to show you understand how each s applied and used in capital budgeting decisions.

In order to determine whether a project will prove to be profitable, a firm will likely use one of the following four methods to do so. The methods are:

Net present value ( NPV )

Internal rate of return ( IRR )

Profitability index ( PI )

Payback period ( PB )

Net Present Value (NPV):

The NPV is the entire present value (PV) of the stream of future cash funds from a project minus the project's net investment.

(Algorithm: NPV = PV of future cash flows -- Investment)

NPV Decision Rule:

If NPV ? 0 then accept

For Mutually exclusive investments, select the project with the largest NPV (FIN 301)

Procedure:

NPV is the present value of all cash flows generated by a project.

1) Find the PV of each cash flow (both inflows and outflows)

2) Add up all the PV's to get NPV.

3) Accept the project if NPV > 0. If two projects are mutually exclusive, pick the one with the higher positive NPV.

Advantages and Disadvantages of the NPV Method:

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It considers both magnitude and timing of the cash flows and investigates whether a proposed project will yield the investor's required rate of return. It is also more attractive to the shareholder in that added NPV reflects higher stock prices.

On the other hand, people find it easier to work with a percentage return rather than a dollar return - which is what NPV works with.

Internal Rate of Return IRR

The IRR is the project's expected rate of return. It has to exceed NPV and the cost of capital for the shareowner to make a profit from the project.

IRR Decision Rule:

If IRR ? discount rate than accept.

TOPIC: Research Paper on Internet Explore the Capital Budgeting Techniques Used Assignment

For Mutually exclusive investments, select the project with the largest IRR (FIN 301)

Advantages and Disadvantages of IRR

People feel comfortable with IRR aside from which IRR reflects the timing and magnitude of cash flows.

The disadvantages however include the… [END OF PREVIEW] . . . READ MORE

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