Cfa Note 4 Highlight
CFA note 4Capital budgeting process(p1):identify and evaluate capital projects (impact on future earnings)[pic 1] Cash flow to the firm that will receive over one year Eg. Buy a new machine, expand business in another area, move headquarters Financial manager primary goal: maximize shareholder value Four step: Idea generationAnalyzing project proposalsCreate the firm-wide capital budgetMonitoring decisions and conducting a post-audit Categories of capital budgetingReplacement projects to maintain the business Replacement projects for cost reductionExpansion projectsNew product or market developmentMandatory projectsFive principlesDecision based on cash flows, not accounting income (incremental)Sunk costs: costs cannot be avoid, not included in the analysis
Externalities: accept one project may have other firm cash flows A negative one called cannibalization: 减去old line的existing sales Positive: positive effect on other product lineCash flow based on opportunity cost (should be include)The timing of cash flows is importantCash receive now worth more than receive laterCash flow analyzed on an after-tax basisFinancial costs are reflected in the project’s required rate of returnExpected return > cost of capital→ increase the value of the firmIndependent projects: can accept project A and BMutually exclusive projects: only accept project A or BProject Sequencing: 次序Unlimited funds and capital rationingCompany have constrains on the amount of capital they raiseNPV&IRRDiscount rate: firm’s cost of capital NPV=present value of the expected inflows-initial cost of the project[pic 2][pic 3] Internal Rate of Return (IRR) Discount rate that makes the PV of the expected incremental after tax cash inflows equal to the initial cost of the project.[pic 4][pic 5][pic 6] the shorter, the betterDrawback 1) not consider the time value of money2) Cash flows beyond the payback period (terminal/salvage value not consider Benefit good measure of liquidityDiscount Payback period