Investment Decisions Flashcards
What is capital expenditure?
Acquisition of non-current assets or their improvemen
What is revenue expenditure?
Incurred to maintain non-current assets (e.g. repairs)
What if company’s main objective is to maximise shareholder wealth?
The key investment appraisal technique should be net present value (NPV)
Why should NRV be used for maximising shareholder wealth?
Shows the theoretical absolute change in shareholder wealth due to a project
Why do managers require other measurements?
To aid their decision-making process (e.g. payback for liquidity and ROCE for financial statements)
Which investment appraisal do providers of fiannce want to know?
IRR
The higher the IRR over proposed loan interest rate?
The lower the risk of default
What is payback period?
Amount of time it takes for the undiscounted operating cash flows from a project to pay back the initial investment
If payback period < target
ACCEPT
If payback period > target
REJECT
Advantagtes of payback period?
Simple to calculate and understand
Concentrates on earlier cash flows (more certain and more important for liquidity)
Disadvantage of payback period?
Ignores cash flows after payback period
Target period subjective
Ignores TVM
Gives no information about change in shareholder wealth
What is discounted payback?
Cash flows first be discounted to present value and then a discounted payback period is calculated
What is ROCE?
The average annual operating profit expressed as a percentage of the initial (or average) investment
If ROCE > target
Accept
