Investment appraisal method

1546 WordsOct 13, 20147 Pages
Table of Contents Section Pg Contents 1 Introduction 2 Background 3 Methods 4 Comparison and modification 7 Conclusion 9 References 10 Introduction With the development of business, more and more techniques have been widely used into companies to maximize the wealth. Capital investment appraisal is the budgeting of major capital and investment to company expenditure which facilitates the determination of the concerned firm 's investments. Doubtlessly, firms will benefit from…show more content…
Payback method can help the firms to make the decision in according to the duration of projects which is a reasonably simple measure for ranking projects. It also demonstrates a shorter period of payback is considered as a better project because companies can recover its initial cost in a shorter time, which serves as the first level screening device. In addition, this method is easy to understand and communicate to new company(Pike and Neale, 2006). Nevertheless, this method also has some drawbacks. Due to lack of the time value of money, companies should mix the NPV method with the payback method. Doubtlessly, the inaccurate NPV will lead to the inaccurate outcome of payback period. In addition, payback method ignores all of the cash flows after the specfic time which is not going to happen in practice. Although payback is similar with NPV, it is just a poor compromise of NPV method. Internal Rate of Return (IRR) Internal Rate of Return uses discounting to measure investments and compares the profitability of investments. The definition of IRR is a discount rate at which the net present value of the investment equals the net present value of the investment. It is also defined as discount rate at which NPV equals zero (Pike and Neale, 2006). One advantage of IRR method in capital investment is that it takes into account the size of initial investment and cash flows over the whole of the project rather than just profit or cash inflow. The

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