1、Capabilities,1. Discuss the difficulty encountered in finding profitable projects in competitive markets and the importance of the search. 2. Determine whether or not a new project should be accepted or rejected using the payback period, the net present value, the profitability index, and the intern
2、al rate of return. 3. Explain how the capital-budgeting decision process changes when a dollar limit is placed on the dollar size of the capital budget. 4. Discuss the problems encountered in project ranking. 5. Explain the importance of ethical considerations in capital-budgeting decisions. 6. Disc
3、uss the trends in the use of different capital-budgeting criteria., Finding Profitable Projects Capital-Budgeting Decision Criteria Capital Rationing Problems in Project RankingCapital Rationing, Mutually Exclusive Projects, and Problems with the IRR Ethics in Capital Budgeting A Glance at Actual Ca
4、pital-Budgeting Practices,Objective 1 FINDING PROFITABLE PROJECTS to evaluate profitable projects or investments in fixed assets, a process referred to as capital budgeting, Axiom 5: The Curse of Competitive MarketsWhy Its Hard to Find Exceptionally Profitable Projects.,The payback period is the num
5、ber of years needed to recover the initial cash outlay.,Objective 2 CAPITAL-BUDGETING DECISION CRITERIA,A B Initial cash outlay $10,000 $10,000 Annual net cash inflows Year 1 $ 6,000 $ 5,0002 4,000 5,0003 3,000 04 2,000 05 1,000 0,Net Present Value,The net present value (NPV) of an investment propos
6、al is equal to the present value of its annual net cash flows after taxes less the investments initial outlay.,NPV =,- IO,NPV,ACFt = the annual after-tax cash flow in time period t .k = the appropriate discount rate; that is, the required rate of return or cost of capital IO = the initial cash outla
7、y n = the projects expected life,Principal,NPV 0.0 : accept NPV 0.0 : reject,NPV Illustration of Investment in New Machinery AFTER-TAX CASH FLOW Inflow year 1 15,0002 14,0003 13,0004 12,0005 11,000,Initial outlay $40,000,Calculation for NPV Illustration of Investment in New Machinery PRESENT VALUE A
8、FTER-TAX FACTOR AT PRESENT CASH FLOW 12 PERCENT VALUE 2 14,000 .797 11,1583 13,000 .712 9,2564 12,000 .636 7,6325 11,000 .567 6,237 Initial outlay 40,000,Inflow year 1 15,000 .893 $13,395,Present value of cash flows $ 47,678,Net present value $ 7,678,Profitability Index (Benefit-Cost Ratio),The prof
9、itability index (PI), or benefit-cost ratio, is the ratio of the present value of the future net cash flows to the initial outlay.,PI =,ACFt = the annual after-tax cash flow in time period t (this can take on either positive or negative values )k = the appropriate discount rate; that is, the require
10、d rate of return or cost of capital IO = the initial cash outlay n = the projects expected life,Principale,PI 1.0 : acceptPI 1.0 : reject,PRESENT VALUE AFTER-TAX FACTOR AT PRESENT CASH FLOW 10 PERCENT VALUE Inflow year 1 15,000 0.909 13,6352 8,000 0.826 6,6083 10,000 0.751 7,5104 12,000 0.683 8,1965
11、 14,000 0.621 8,6946 16,000 0.564 9,024,Initial outlay $50,000 1.000 $50,000,= 1.0733,Internal Rate of Return,The internal rate of return (IRR) the discount rate that equates the present value of the projects future net cash flows with the projects initial cash outlay.,IO =,IRR,ACFt = the annual aft
12、er-tax cash flow in time period t (this can take on either positive or negative values )IO = the initial cash outlay n = the projects expected lifeIRR = the projects internal rate of return,$45,555 =,$45,555 = 15,000,$45,555 = $15,000 (PVIFA i , 4yr )Dividing both sides by $15,000, this becomes 3.03
13、7 = PVIFA i, 4yr,IRR for Uneven Cash Flows,Present Value Net Cash Flows Factor at 15 Percent Present Value Inflow year 1 $1,000 .870 $ 870 Inflow year 2 2,000 .756 1,512 Inflow year 3 3,000 .658 1,974 Present value of inflows $ 4,356 Initial outlay $ 3,817 2. TRY i = 20 PERCENT:,Present Value Net Ca
14、sh Flows Factor at 20 Percent Present Value Inflow year 1 $1,000 .833 $ 833 Inflow year 2 2,000 .694 1,388 Inflow year 3 3,000 .579 1,737 Present value of inflows $ 3,958 Initial outlay $ 3,817 3. TRY i = 22 PERCENT:,Present ValueNet Cash Flows Factor at 22 Percent Present Value Inflow year 1 $1,000
15、 .820 $ 820 Inflow year 2 2,000 .672 1,344 Inflow year 3 3,000 .551 1,653 Present value of inflows $ 3,817 Initial outlay $ 3,817,Three IRR Investment,A B C Initial outlay $10,000 $10,000 $10,000Inflow year 1 3,362 0 1,000Inflow year 2 3,362 0 3,000Inflow year 3 3,362 0 6,000Inflow year 4 3,362 13,6
16、05 7,000,15%,Present Value Net Cash Flows Factor at 15 Percent Present Value Inflow year 1 $1,000 .870 $ 870 Inflow year 2 3,000 .756 2,268 Inflow year 3 6,000 .658 3,948 Inflow year 4 7,000 .572 4,004 Present value of inflows $11,090 Initial outlay $ 10,000,Present Value Net Cash Flows Factor at 19
17、 Percent Present Value Inflow year 1 $1,000 .840 $ 840 Inflow year 2 3,000 .706 2,118 Inflow year 3 6,000 .593 3,558 Inflow year 4 7,000 .499 3,493 Present value of inflows $10,009 Initial outlay $ 10,000,Objective 4,PROBLEMS IN PROJECT RANKING-CAPITAL RATIONING, MUTUALLY EXCLUSIVE PROJECTS, AND PRO
18、BLEMS WITH THE IRR. 1 Size disparity 2 Time disparity 3 Unequal live,Capital-Rationing Example of Five Indivisible Projects Project Initial Outlay Profitability Index Net Present Value A $200,000 2.4 $280,000B 200,000 2.3 260,000C 800,000 1.7 560,000D 300,000 1.3 90,000E 300,000 1.2 60,000,Investmen
19、t Evaluation A Primary A Secondary Total Using Methods Used: Method Method This Method Payback period 24% 59% 83% Internal rate of return 88% 11% 99% Net present value 63% 22% 85% Profitability index 15% 18% 33%,Project Size and Decision-Making Authority Project Size Typical Boundaries Primary Decis
20、ion Site Very small Up to $100,000 Plant Small $100,000 to $1 million Division Medium $1 million to $10 million Corporate investment committee Large Over $10 million CEO & board,KEY TERMS,Benefit-Cost Ratio (see Profitability Index) Capital Budgeting Capital Rationing Equivalent Annual Annuity (EAA) Internal Rate of Return (IRR) Mutually Exclusive Projects Net Present Value (NPV) Payback period Profitability Index (PI or Benefit-Cost Ratio),
