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Terms in this set (19)
1. Capital Budgeting
2. Capital Structure
3. Working Capital Management
3 Chief areas of financial decision-making in most business:
this is the allocation of funds to relatively long range projects or investments
is the choice of long-term financings for the investments the company wants to make.
Working Capital Management
is the management of the company's short-term assets and liabilities.
is the present value of cash inflows minus the present value of cash outflows
1. Incremental cash flows
2. After Tax cash flows
2 observed principles in developing cash flow estimates:
incremental cash flows
any and all changes in the firm's future cash flows that are a direct consequence of taking the project (excluding sunk costs)
1. Identify all cashflows associated with the investment - all inflows and outflows
2. Determine appropriate discount rate, opportunity cost, or "r" for the investment project.
3. Using the decided rate, find the PV of CF (Inflows + & Outlfows -)
4. Sum all the present values.
5. Apply NPV Rule
Estimate of opportunity cost
This is used as the discount rate in NPV analysis:
this type of project makes the company larger; however, it does not increase shareholder wealth.
the discount rate that makes net present value equal to zero.
Compound rate of return
We will only realize this type of return that is equal to IRR over the life of the investment only if we can reinvest all interim CF at exactly the IRR.
accept projects or investments for which the IRR is greater than the ________________ ____________ of capital.
NPV > 0
If the opportunity cost is less than IRR of a project; then NPV is.....
if the opportunity cost is greater than the IRR management should....
under this circumstance, the IRR and NPV rules give the same accept or reject decision
1. Size and Scale
2. Timing of CF
The IRR and NPV rules rank differently when:
this is determined by the projects cash flows alone; further, it assumes reinvestment at this rate preventing the interpretation of it as an achievable rate of return.
this uses an external market-determined discount rate, and reinvestment is assumed to take place at that discount rate.
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