chapter 13 notes

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Management and Organizational Studies
Management and Organizational Studies 3370A/B
Raymond Leduc

Chapter 13Capital Budgeting Capital budgetingprocess of planning significant outlays on projects that have longterm implications ie purchase of new equipment or introduction of new product In involves investment companies must commit funds now to get a future return1 Any outlay now in order to obtain some return in the future 2 Types of decisionsCostreductionExpansionEquipment selectionLease or buyEquipment replacementCapital budgeting has two categories 1 Screening decisionsthose related to whether a proposed project is accepted a decision as to whether a proposed investment meets some preset standard of acceptance 2 Preference decisionsrelate to selected from among several acceptable alternatives a decision as to which of several competing proposals is bestApproaches to capital budgeting decisions 1 The Payback methodthe length of time that it takes for a project to recoup its initial cost out of the cash receipts that it generates the more quickly the cost of an investment can be recovered the more desirable the investment When the net annual cash inflow is the same every year the payback period is Payback periodinvestment requirednet annual cash inflowNOT a true measure of the profitability of an investment a shorter payback period does not mean that one investment is more favourable than anotherDoes not highlight differences in useful life between investments or consider the time value of moneyUseful method for firms that are cash poor or in industries where products become quickly obsoleteWhen the new equipment is replacing the old equipment
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