Corporate Finance: Corporate finance is one of the most scoring topics of the level one exam.

The wieghtage of this topic is 8% in level 1 exam.

8%

Recommended Practice: To start with corporate finance, you need to first understand time value of money from the quantitative section very well.

Important concept of this section: Weighted average cost, capital structure and valuation, leverage and dividend. So it is recommended to understand them well and do numericals based on the concepts.

Trend of Questions: Questions are relatively straight forward. They are analytical as well as quantitative in nature. So if you know your concepts and methodology well it is very difficult to get them wrong.

Reading 36 Capital Budgeting

LOS 36.a
Describe the capital budgeting process, including distinguish the typical steps of the process, and among the various categories of capital projects;

What is capital budgeting?

 Capital budgeting is a process of business which determines , whether a project worth doing or not? Meaning selecting or rejecting the project choices.

Why capital budgeting?

 Because in practical life we have limited resources , hence it is not possible to do all but choose the one which have highest worth.

How to choose proper cash flows?

 Actual cash flows but not the accounting: (For instance to buy a new
equipment you need total cost in the first year whereas accounting cash flow only allows depreciation expense)  After tax cash flow: (Whereas depreciation is not the real cash flow out so need to be subtracted)  Timeline:(Expenses are discounted when they actually occur)  Opportunity cost: (Whatever resource we use there is a cost associated with it even if you are not making any expenditure to acquire it for instance the time you put in your business even if you do not withdraw salary it s cost shall be included)

How to choose proper cash flows? Cond

 Taxes: Since it are real cash flows so need to be considered.
 Sunk cost : The cost which have already been incurred shall not be the part of cash flow  Accounting overheads: Supporting cost for instance to deliver the online lecture there is some cost of IT personnel.  Financing costs: Any financing cost shall not be included the interest payment etc. As we already using WACC TO DISCOUNT CASH FLOWS Discounted cash flow with proper timing of cash flow in and out and also the correct discount rate.

Capital budgeting process:

Finding Projects

Analyzing it including their cash flows- assessing their riskiness

Choose budget

Post audit (be sceptical and analyze it further)

What are the different categories of capital budgeting ?

 Replacement project: For instance replacing old machines with new one.
 Expansion project: Increasing production capacity or may be covering more markets.  New project: Venturing into a business/product where company have no prior existence.  Important: The major difference among all these projects would be their different discount rate because of the existing leverage and their riskiness. (for instance new project discount rate> expansion project)