Capital Investment Appraisal PPT1

Question 1

What is the importance of investment decisions?

Answer 1

Investment decisions determines the future cash flows of a company which determines company value.

Question 2

What is the payback period?

Answer 2

This method calculates the number of years it takes for cumulative cash flows to repay the initial investment.

Question 3

Advantages of Payback Method

Answer 3

Simple and quick to calculate].
Readily understandable].
Useful for companies with liquidity issues].
Useful risk screening technique].

Question 4

Disadvantages of Payback Method

Answer 4

Ignores the time value of money].
Ignores the profitability of a project].
Ignores the size of a project].
Ignores the impact of a project].

Question 5

What is the Accounting Rate of Return?

Answer 5

The ARR estimates the rate of accounting profit that a project will generate over its entire life.

Question 6

ARR Advantages

Answer 6

Takes profits into account. This is important as a project should not only have positive cash flows but should also be profitable].
Useful for screening projects to see which would be worthwhile].

Question 7

ARR Disadvantages

Answer 7

Does not focus on cash flows].
Ignores the time value of money].
Ignores the size and duration of a project (both risk factors).

Question 8

What is the Net Present Value?

Answer 8

The NPV Method of project appraisal, discounts cash inflows and outflows of an investment to their present value.

Question 9

NPV Advantages

Answer 9

Time value of money is taken into consideration].
All relevant cash flows are considered in the appraisal process].

Question 10

NPV Disadvantages

Answer 10

Time consuming calculations].
It does not consider the scale of a project, and does not determine when the project will pay itself off].

Question 11

What is the discounted payback period?

Answer 11

The discounted payback period method overcomes one of the weaknesses of the payback period method, as it takes the time value of money into consideration.
This method ranks investments according to the speed at which the cumulative discounted cash flows of an investment cover the initial cash outlay.

Question 12

Discounted Payback Period Advantages

Answer 12

Simple and quick to calculate].
Readily understandable].
Useful risk screening technique].
Takes the time value of money into consideration].
Useful for companies with liquidity issues].

Question 13

Discounted Payback Period Disadvantages

Answer 13

Ignores profitability, size of the project and impact of the project.

Question 14

IRR Advantages

Answer 14

Time value of money is considered.

Question 15

IRR Disadvantages

Answer 15

Time consuming calculations].
Ignores the scale of projects].