Chaptr 5 The Analysis of Investment Projects.ppt

Chapter 5: The Analysis of Investment Projects Chapter 5 Contents The Nature of Project Analysis Where Do Investment Ideas Come From? The NPV Rule Estimating a Project’s Cash Flow Cost of Capital Sensitivity Analysis Using Spreadsheets Analyzing Cost-Reduction Projects Projects with Different Lives Ranking Mutually Exclusive Projects Inflation and Capital Budgeting Capital Budget and Capital Budgeting In the chapter 4, we discussed how to apply discounted cash flow to analyze individual’s financial decisions. A business firm should often decide whether to invest in factories, machinery, warehouses research laboratories showrooms, and training the personnel. The process of analyzing such decisions is called capital budgeting. The Capital Budgeting Process Once a company has decided what business it intends to be in, it must considers proposals for investment projects evaluating them deciding which ones to accept and which to reject The Nature of Project Analysis Procedures of project analysis include Starting with an original idea for increasing shareholder wealth Gathering information to assess the costs and benefits Devising and then implementing the strategy Forecasting cash flows: Decisions and events Decision Flexibilities in the project’s life Continue/discontinue the project Reduce/increase the level of investment Where Do Investment Ideas Come from? Customers RD department Competition Production division Incentive systems Objectives To show how to use discounted cash flow analysis to make decisions such as: Whether to enter a new line of business or launch a new product Whether to invest in equipment to reduce costs NPV Rule Revisited The decision criterion/rule is that invest if the proposed project’s NPV is positive. Forecasting the cash inflows and outflows. The discount rate is the opportunity cost (or the cost of capital) which measures the rate of return on comparable investment opportunities. Estimating A Project’s Cash Flows Project’s cash flows