PRIN.OF CORPORATE FINANCE
13th Edition
ISBN: 9781260013900
Author: BREALEY
Publisher: RENT MCG
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Chapter 11, Problem 3PS
Capital budgeting process Draw up an outline or flowchart tracing the capital budgeting process from the initial idea for a new investment project to the completion of the project and the start of operations. Assume the idea for a new obfuscator machine comes from a plant manager in the Deconstruction Division of the Modern Language Corporation.
Here are some questions your outline or flowchart should consider: Who will prepare the original proposal? What information will the proposal contain? Who will evaluate it? What approvals will be needed, and who will give them? What happens if the machine costs 40% more to purchase and install than originally
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Scenario:
Capital budgeting is utilized to determine if a project is worthwhile. The net present value (NPV), payback period, and internal rate of return (IRR) methods are used to rank and select which project to undertake. The following video outlines the NPV and IRR method of capital budgeting:
Explain how to calculate the NPV, IRR, and payback period for each project. Utilizing the capital budgeting calculations, you will need to select the best investment for the company. These calculations will be based on the following scenario:
Hunter Shipyard Industries has 3 potential projects to consider, all with an initial cost of $1,250,000. The company prefers to reject any project with a 4-year cut-off period for recapturing initial cash outflow. Given the cost of capital rates and the future cash flow for each project, determine which project the company should accept.
Cash Flow
Project A
Project I
Project U
Year 1
250,000
450,000
250,000
Year 2
250,000…
Outlining the capital budgeting process
Review the following activities of the capital budgeting process:
a. Budget capital investments.
b. Project investments’ cash flows.
c. Perform post-audits.
d. Make investments.
e. Use feedback to reassess investments already made.
f. Identify potential capital investments.
g. Screen/analyze investments using one or more of the methods discussed.
Place the activities in sequential order as they occur in the capital budgeting process.
Outlining the capital budgeting process
Review the following activities of the capital budgeting process:
Budget capital investments.
Project investments’ cash flows.
Perform post-audits.
Make investments.
Use feedback to reassess investments already made.
Identify potential capital investments.
Screen/analyze investments using one or more of the methods discussed.
Place the activities in sequential order as they occur in the capital budgeting process.
Chapter 11 Solutions
PRIN.OF CORPORATE FINANCE
Ch. 11 - Capital budgeting process True or false? a. The...Ch. 11 - Capital budgeting process Explain how each of the...Ch. 11 - Capital budgeting process Draw up an outline or...Ch. 11 - Prob. 4PSCh. 11 - Biased forecasts Look back to the cash flows for...Ch. 11 - Prob. 6PSCh. 11 - Prob. 7PSCh. 11 - Prob. 8PSCh. 11 - Market prices Suppose the current price of gold is...Ch. 11 - Prob. 10PS
Ch. 11 - Prob. 11PSCh. 11 - Prob. 12PSCh. 11 - Prob. 13PSCh. 11 - Economic rents True or false? a. A firm that earns...Ch. 11 - Prob. 16PSCh. 11 - Economic rents Thanks to acquisition of a key...Ch. 11 - Prob. 18PSCh. 11 - Prob. 19PSCh. 11 - Prob. 20PSCh. 11 - Prob. 21PSCh. 11 - Prob. 22PSCh. 11 - Economic rents Taxes are a cost, and, therefore,...Ch. 11 - Prob. 1MCCh. 11 - Libby Flannery, the regional manager of Ecsy-Cola,...
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Need a deep-dive on the concept behind this application? Look no further. Learn more about this topic, finance and related others by exploring similar questions and additional content below.Similar questions
- a. Calculate the terminal cash flow of the project b. Taking into consideration all the information given, determine the Net Present Value of the project and advice the company on whether to invest in the new line of product. c. Why should the cost of capital used in capital budgeting be calculated as a weighted average of the capital component rather than the cost of the specific financing used to fund a particular projectarrow_forwardWhat is the second step of capital budgeting? Gathering the money for the investment Identifying potential projects Getting the accountant involved All of the abovearrow_forwardCapital budgeting is the ________. A. process of planning for investments in long−term assets B. process of evaluating the profitability of a business C. process of making pricing decisions for products D. preparation of the budget for operating expensesarrow_forward
- What is the second step of capital budgeting? a. Gathering the money for the investment b. Identifying potential projects c. Getting the accountant involved d. All of the abovearrow_forwardThe decision process Before making capital budgeting decisions, finance professionals often generate, review, analyze, select, and implement long-term investment proposals that meet firm-specific criteria and are consistent with the firm’s strategic goals. Companies often use several methods to evaluate the project’s cash flows and each of them has its benefits and disadvantages. Based on your understanding of the capital budgeting evaluation methods, which of the following conclusions about capital budgeting are valid? Check all that apply. The discounted payback period improves on the regular payback period by accounting for the time value of money. Managers have been slow to adopt the IRR, because percentage returns are a harder concept for them to grasp. For most firms, the reinvestment rate assumption in the NPV is more realistic than the assumption in the IRR. True or False: Sophisticated firms use only the NPV method in capital budgeting decisions.…arrow_forwardThe decision process Before making capital budgeting decisions, finance professionals often generate, review, analyze, select, and implement long-term investment proposals that meet firm-specific criteria and are consistent with the firm’s strategic goals. Companies often use several methods to evaluate the project’s cash flows and each of them has its benefits and disadvantages. Based on your understanding of the capital budgeting evaluation methods, which of the following conclusions about capital budgeting are valid? Check all that apply. For most firms, the reinvestment rate assumption in the MIRR is more realistic than the assumption in the IRR. The discounted payback period improves on the regular payback period by accounting for the time value of money. Because the MIRR and NPV use the same reinvestment rate assumption, they always lead to the same accept/reject decision for mutually exclusive projects. True or False: Sophisticated firms use only…arrow_forward
- Project Appraisal and Financing. We have studied the subject under the following headings . Please prepare a flowchart or a table where the features get highlighted. The purpose is to establish that you have understood the concepts in a broad manner. Selection of Project Time Value of Money Investment Criteria Project cash flows Project Risk Analysis Financing of Projectarrow_forwardA. Calculate the payback period for each project and identify the project in which the company should invest, giving one reason for your choice. B. Calculate the accounting rate of return on initial capital for each project.arrow_forwardThe capital budgeting is a complex process that includes several activities- Discuss the steps which the financial manger should follow for the capital budgeting project.arrow_forward
- Capital Budgeting Decisions A college intern working at Anderson Paints evaluated potential investments using the firm’s average required rate of return (r) as the discount rate in the evaluation process and he produced the following report for you as the capital budgeting manager at Anderson Paints: Project NPV IRR Risk LOM $1,500 12.5% High QUE 0 11.0 Low YUP (800) 10.0 Average DOG (150) 9.5 Low As the capital investment manager you must account for the risks associated with capital budgeting projects before making final recommendations and decisions. The company’s capital investment risk management policy calls for an adjustment of the firm’s average required rate of return by plus/minus 2% if a project’s…arrow_forward1. Concepts used in cash flow estimation and risk analysis You can come across different situations in your life where the concepts from capital budgeting will help you in evaluating the situation and making calculated decisions. Consider the following situation: The following table contains five definitions or concepts. Identify the term that best corresponds to the concept or definition given. Concept or Definition Term The specific cash flows that should be considered in a capital budgeting decision A cost that has been incurred and may be related to a project but should not be part of the decision to accept or reject a project The cash flows that the asset or project is expected to generate over its life The effects on other parts of the firm The cost of not choosing another mutually exclusive project by accepting a particular project A successful sushi chain in Hong Kong spent $500,000 to conduct a study on whether to open…arrow_forwardDefining capital investments and the capital budgeting process Match each definition with its capital budgeting method. Methods Accounting rate of return Internal rate of return Net present value Payback Definitions It is only concerned with the time it takes to get cash outflows returned. It considers operating income but not the time value of money in its analyses. Compares the present value of cash outflows to the present value of cash inflows to determine investment worthiness. The true rate of return an investment earns.arrow_forward
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