Capital budgeting methods
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document in English
finance
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published 26/08/2008
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SummaryCapital budgeting is concerned with the process of producing, evaluating, selecting and controlling capital expenditures. In this context, capital budgeting decisions are critical. Winning projects typically produce positive cash flows for a long period of time, while failing projects do not return enough cash flow to justify the investment.
Capital budgeting methods facilitate project undertaking and ensure – to a certain extent – the viability of the organization. On the other hand, the methods of capital budgeting are challenged in regards to the accuracy of the estimates they produce.
This paper discusses capital budgeting methods. Focusing on the analysis of net present value (NPV), regular payback period, discounted payback period and internal rate of return (IRR), the paper identifies shortcomings on NPV and regular payback period methods. These shortcomings are the result of ignoring the time value of money, the cost of debt and equity and the importance of time in regards to better informed decision making.
Keywords: capital budgeting, net present value, payback period, project evaluation
Capital budgeting methods facilitate project undertaking and ensure – to a certain extent – the viability of the organization. On the other hand, the methods of capital budgeting are challenged in regards to the accuracy of the estimates they produce.
This paper discusses capital budgeting methods. Focusing on the analysis of net present value (NPV), regular payback period, discounted payback period and internal rate of return (IRR), the paper identifies shortcomings on NPV and regular payback period methods. These shortcomings are the result of ignoring the time value of money, the cost of debt and equity and the importance of time in regards to better informed decision making.
Keywords: capital budgeting, net present value, payback period, project evaluation
Table of Contents
- Abstract.
- Introduction.
- Defining capital budgeting.
- Capital budgeting methods.
- Net Present Value (NPV).
- Regular payback period.
- Discounted payback period.
- Internal Rate of Return (IRR).
- Net Present Value (NPV) shortcomings.
- Regular Payback period shortcomings.
- Conclusions.
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