chapter 8 capital budgeting

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initial cost formula

IC=IP+ATP-DTP-EQP+TOEor-TCE

internal rate of return

a projects rate of profitability; calculate by dividing the expected net cash flows by the number of periods

incremental cash flow

cash flow created through the implementation of a new project; consists of any cash flow from the project that is greater than the cash flow that currently exists

strengths of Internal ROR

considers cash flows after project paid back; incorporates time value of money

process of capital budgeting

determine initial cost of the project or projects; determine the incremental cash flows of project; select the capital budgeting method; conduct a post-audit analysis

advantages of net present

identifies projects with a positive NPV

weakness for discounted

ignores cash flows after the discounted payback

weaknesses of payback

ignores time value of money; ignores cash flows

strengths of payback period

indicates project's risk and liquidity; easy to calculate

strengths for discounted

indicates risk and liquidity; easy to calculate; incorporates time value of money; more realistic than payback

recent TAMU projects

kyle field; stem buildings; corps of cadets; softball

payback period

number of years required to recover a project's cost; generally the first capital budgeting

discounted payback

number of years required to recover a projects cost using discounted rather than raw cash flows; takes longer than payback

capital budgeting methods

payback period; discounted payback period; net present value; internal rate of return; modified internal rate of return

benefits of capital budgeting

plan amount of resources needed; develop and evaluate alternative capital expenditures; help plan timing of resources; maintain positive ROI

net present value

present value of a projects future cash flows are compared to the projects initial cost; provides best measure of profitability

capital budgeting defined

process of evaluating, comparing, and selecting capital projects to achieve the best return on investment over time

modified internal ROR

recommended in sport due to irregular cash flows

disadvantages

requires detailed prediction of the projects future cash flows; assumes that the discount rate will stay the same

current

short term and completely written off during the year the expense is incurred; usually involve smaller amounts of cash

post audit analysis

this step is often forgotten;

capital expenditure

use of funds to acquire operational assets that will help the organization earn revenues; long term expenditures amortized over a period of time; involve large amounts of cash


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