Investment

An investment is an asset or item acquired with the goal of generating

income or appreciatikn, it is also the action or process of investing
money for profit or materials results.
Capital budgeting
Also known as investment appraisal, it is the process by which a
company determines whether projects ( such as investing, opening new
branch, replacing a machine ) are worth pursuing. A project is worth
pursuing if it increase the value of the comppany.
Objectives of capital budgeting
• To determine product scope
• To determine funding sources
• To determine payback method
• To control project costs
Capital budgeting system
It is the process used to determine whether an organizations long term
investments are worth the funding of cash through the firm’s
capitalization.
Time value of money
It is the concept that money available at the present time is worth
more than the identical sum in the future due to it’s potential earning
capacity. This core principle of finance holds that, provided money can
earn interest, any amount of money is worth more the sooner it is
recleved.
NET PRESENT VALUE

• Net Present Value (NPV) is the value of all future cash flows (positive
and negative) over the entire life of an investment discounted to the
present. NPV analysis is a form of intrinsic valuation and is used
extensively across finance and accounting for determining the value
of a business, investment security, capital project, new venture, cost
reduction program, and anything that involves cash flow.
•
Why is NPV analysis Used?

• NPV analysis is used to help determine how much an investment,

project, or any series of cash flows is worth. ... In addition to factoring
all revenues and costs, it also takes into the account the timing of
each cash flow that can result in a large impact on the present value
an investment.
• Difference between NPV and Payback
PAYBACK PERIOD

• The payback period is the length of time required to recover the cost
of an investment. The payback period of a given investment or project
is an important determinant of whether to undertake the position or
project, as longer payback periods are typically not desirable for
investment positions.
Difference between NPV and payback

• Payback does not specify any required comparison to other

investment or investment descision making. It indicates the maximum
acceptable period for the investment while NPV measure the total
dollar value of project benefits.
Discounted Payback

The discounted payback period is a capital budgeting procedure

used to determine the profitability of a project. A discounted payback
period gives the number of years it takes to break even from
undertaking the initial expenditure, by discounting future cash flows
and recognizing the time value of money.
PROFITABLITY

• Profitability measure that evaluates the performance of a business by

dividing net profit by net worth. Return on investment, or ROI is the
most common profitablity ration. There are several ways to
determine ROI but the most frequently used method is to divide net
profit by total assets.
Why profitability is important for a company?

Profit equals a comoany's revenues minus expenses. Earning a profit is

important to a small business beacause profitability impacts whether a
company can secure financing from a bank, attract investors to fund its
operation and grow its business.
IRR

The internal rate of return (IRR) is a metric used in capital

budgeting to estimate the profitability of potential investments. The
internal rate of return is a discount rate that makes the net present
value (NPV) of all cash flows from a particular project equal to zero
Difference between ROI and IRR

ROI gives the overall picture of the investment and its returns
from beginning to end. IRR takes into account the future value of
money and hence it is a metric that is very important to calculate.
Whereas, ROI doesn't take future value of money while doing the
calculations.
ARR

• The accounting rate of return (ARR) is the percentage rate of return

expected on an investment or asset as compared to the initial
investment cost. ARR divides the average revenue from an asset by
the company's initial investment to derive the ratio or return that can
be expected over the lifetime of the asset or related project. ARR
does not consider the time value of money or cash flows, which can
be an integral part of maintaining a business.