techniques to evaluate investments
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Explain the techniques to evaluate investments and decide which projects to pursue. How do you formulate decision rules and compare decisions based on these rules to decisions based on the NPV rule.
Analyze the concept of present value and its use in capital budgeting. Explain why we accept projects with the positive NPV.
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The solution explains techniques used to evaluate investments. An analysis of how to formulate decision rules and compare decisions based on these rules is given.
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The techniques to evaluate investments and decide which projects to pursue. How do you formulate decision rules and compare decisions based on these rules to decisions based on the NPV rule.
The techniques to evaluate the investments are:
Payback period: This period is the number of years required for cash inflows to recover the original investment.
Decision rule:
The actual payback period can be compared with the predetermined payback period. If the actual payback period is lesser or equal to expected payback period, then the project can be accepted. Otherwise, the project can be rejected.
Net present value: This is the difference between the present value of cash inflows and the present value of cash outflows.
Decision rule:
If the present value of cash inflows is more than the present value of cash outflows, then it results in positive net present value and the project can be accepted. On the other hand, if the present value of cash inflows is lesser than the present value of cash outflows, then the project will ...
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