SESI 3

PROJECT
EVALUATION
 REAL
OPTIONS C
ESTIMATING CASH

B FLOW
AND ANALYSING RISK

CAPITAL BUDGETING :
DECISION CRITERIA A
 What are the six primary capital budgeting decision criteria.pros

1 and cons, and how are they related to maximizing shareholder

wealth

POBKJBKVHJVHJVJHVJ
HWERPOINT TEMPLATE
Should managers use just one criterion, or are there good
2 reasons for using two or more criteria in the decision
process

Why do conflicts sometimes arise between the net present value (NPV)

3 and internal rate of return (IRR) methods; that is, what conditions can
lead to conflicts

• If management’s goal is to maximize shareholder wealth,

4 •
should it focus on the regular IRR or the MIRR
Capital rationing
 Cover cash flow estimation and identify the issues
a manager faces in producing relevant and
1 realistic cash flow estimates. t

It is crucial for a manager to incorporate

uncertainty into project analysis if a
2 company is to make informed decisions
regarding project selection.

designed by tinyPPT.com
 How do project cash flows as calculated

A affect a firm’s corporate free cash flows as

and then used to calculate a firm’s value

How does a proposed project’s estimated

B NPV affect the value of the firm?

C How would (a) externalities and (b) sunk

costs, factors be worked into the analysis?

designed by tinyPPT.com
designed by tinyPPT.com
 GROWTH
OPTIONS
2
INVESTMENT
TIMING OPTIONS

4
1 FLEXIBILITY
REAL OPTIONS
are opportunities
for management to
OPTIONS
ABANDONMENT change in market
OPTIONS conditions

3
 Sensitivity Analysis
⮚ Used in forecasting whereby changes are made in estimates of variables to establish whether
any will critically affect outcome of forecast.
⮚ Enables investigation into how projected performance will vary along with changes in key
assumptions on which capital project projections are based.
⮚ Helps in identifying different variables having effect on NPV of a proposal.
⮚ Variables may be sales volume, selling price, material cost, labour cost, fixed cost etc.
⮚ Given level of all these variables, there will be a series of cash flows and there will be NPV of
proposal.
⮚ Used in determination of risk factor in capital budgeting decisions.
⮚ Aids in identifying most sensitive factor on project’s NPV or IRR.

9
 21.11 Decision Tree
⮚ Branching diagram which is similar to probability tree.
⮚ Represents problems in a series to be made under conditions of uncertainty.
⮚ Any one of the decisions may be dependent on outcome of preceding or outcomes of trail.
⮚ It is diagrammatic representation of relationships among decisions, states of nature and payoffs
(or outcomes).
⮚ Decision trees are constructed from left to right.
⮚ Branches represent possible alternative decisions which could be made and various possible
outcomes which might arise. It is helpful to distinguish between two types of branch.

10
 Some topics thatFINANCE
PERSONNEL go beyond the simple
RESEARCH
TINYPPT designed template for TINYPPT designed template for TINYPPT designed template for

capital budgeting framework

presentation in PowerPoint presentation in PowerPoint presentation in PowerPoint

1 3 5

Investing in a new project A project may have an Real options are

often brings with it a potential option value that is not opportunities for
increase in the firm’s future accounted for in a management to respond to
opportunities. Opportunities conventional NPV analysis. changes in market
are, in effect, options—the Any project that expands the conditions and involve
right but not the obligation to firm’s set of opportunities “real” rather than
take some future action has positive option value. “financial” assets.
 

designed by tinyPPT.com
Harapan kami
bermanfaat