What is investment appraisal ?

Investment appraisal involves comparing the expected future cash flows of an investment with the initial expenditure on that investment.

Define the term simple payback period .

The simple payback period is the amount of time it is expected an investment will take to pay for itself.

True or False? The simple payback period considers the profitability of investments.

False . The simple payback period does not provide insight into the profitability of investments.

True or False? The simple payback method is particularly useful where new technology is introduced regularly.

True . The simple payback method is particularly useful where new technology is introduced regularly.

What is meant by the term cumulative cash flow ?

Cumulative cash flow is the total of annual net cash flow over the lifetime of an investment.

True or False? The simple payback method encourages decision-makers to consider the long-term.

False . The simple payback period is often criticised for encouraging a short-termist approach

Give one key piece of data needed before an investment can be appraised?

Key data needed before an investment can be appraised include: Sales forecasts Fixed and variable costs data Pricing information Borrowing costs.

True or False? The payback method is particularly useful for businesses where cash flow management is vital.

True. The payback method is particularly useful for businesses where cash flow management is vital.

Why is the simple payback method considered a litmus test for investments?

The payback method is considered a 'litmus test' as it helps businesses quickly dismiss investment proposals before using more detailed methods.

What is the average rate of return (ARR)?

The average rate of return (ARR) compares the average profit per year generated by an investment with its initial capital cost .

True or False? The average rate of return is expressed as a percentage.

True . The average rate of return is expressed as a percentage, which makes it easy to compare different investment options.

True or False? The average rate of return ignores the timing of cash flows.

True . The calculation of the average rate of return uses the average of cash flows , ignoring the timing of those cash flows.

True or False? The average rate of return ignores the opportunity cost of an investment.

True . The average rate of return ignores the opportunity cost of an investment, as values are neither expressed in real terms nor adjusted for the impact of interest rates and time

What is meant by the term capital cost ?

The capital cost is the value of the initial investment.

What is the net present value (NPV)?

The net present value (NPV) takes into account the effects of interest rates and time on the value of future cash flows.

What does the net present value recognise about future cash flows ?

The net present value recognises that future cash flows are often worth less than money received today due to inflation and opportunity costs.

How is the net present value calculated?

NPV is calculated by discounting all future net cash flows to their present value using discount tables , then subtracting the initial investment cost.

What does a positive net present value indicate?

A positive net present value indicates that the investment is likely to be worthwhile .

What does a negative net present value indicate?

A negative net present value indicates that an investment is unlikely to be worthwhile.

What are discount tables used for in net present value calculations?

Discount tables are used to express future cash flows in today's terms for net present value calculations.

True or False? Net present value considers non-financial benefits or costs.

False . Net present value ignores non-financial benefits or costs, such as environmental damage.

True or False? The net present value considers the opportunity cost of money.

True . The net present value considers the opportunity cost of money and can be used to consider a range of scenarios.

True or False? The choice of discount factor is usually straightforward.

False . Choosing an appropriate discount rate can be hit-and-miss and usually requires experience and expertise.

True or False? Net present value relies on accurate forecasting of future cash flows.

True . Net present value relies on accurate forecasting of future cash flows.

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3.8 Investment Appraisal (DP IB Business Management)

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What is investment appraisal?
Investment appraisal involves comparing the expected future cash flows of an investment with the initial expenditure on that investment.
Define the term simple payback period.
The simple payback period is the amount of time it is expected an investment will take to pay for itself.
True or False?
The simple payback period considers the profitability of investments.
False.
The simple payback period does not provide insight into the profitability of investments.
What is the formula for calculating the simple payback period when net cash flows are constant?
Formula.
$Simple payback period = \frac{Initial outlay}{Net cash flow per period} = Years / months$
True or False?
The simple payback method is particularly useful where new technology is introduced regularly.
True.
The simple payback method is particularly useful where new technology is introduced regularly.
What is meant by the term cumulative cash flow?
Cumulative cash flow is the total of annual net cash flow over the lifetime of an investment.
True or False?
The simple payback method encourages decision-makers to consider the long-term.
False.
The simple payback period is often criticised for encouraging a short-termist approach
Give one key piece of data needed before an investment can be appraised?
Key data needed before an investment can be appraised include:
- Sales forecasts
- Fixed and variable costs data
- Pricing information
- Borrowing costs.
True or False?
The payback method is particularly useful for businesses where cash flow management is vital.
True.
The payback method is particularly useful for businesses where cash flow management is vital.
Why is the simple payback method considered a litmus test for investments?
The payback method is considered a 'litmus test' as it helps businesses quickly dismiss investment proposals before using more detailed methods.
What is the average rate of return (ARR)?
The average rate of return (ARR) compares the average profit per year generated by an investment with its initial capital cost.
State the formula used to calculate the average rate of return.
Formula.
$Average rate of return = \frac{(total returns - capital cost) \div years of use)}{capital cost} \times 100$
True or False?
The average rate of return is expressed as a percentage.
True.
The average rate of return is expressed as a percentage, which makes it easy to compare different investment options.
True or False?
The average rate of return ignores the timing of cash flows.
True.
The calculation of the average rate of return uses the average of cash flows, ignoring the timing of those cash flows.
True or False?
The average rate of return ignores the opportunity cost of an investment.
True.
The average rate of return ignores the opportunity cost of an investment, as values are neither expressed in real terms nor adjusted for the impact of interest rates and time
What is meant by the term capital cost?
The capital cost is the value of the initial investment.
What is the net present value (NPV)?
The net present value (NPV) takes into account the effects of interest rates and time on the value of future cash flows.
What does the net present value recognise about future cash flows?
The net present value recognises that future cash flows are often worth less than money received today due to inflation and opportunity costs.
How is the net present value calculated?
NPV is calculated by discounting all future net cash flows to their present value using discount tables, then subtracting the initial investment cost.
What does a positive net present value indicate?
A positive net present value indicates that the investment is likely to be worthwhile.
What does a negative net present value indicate?
A negative net present value indicates that an investment is unlikely to be worthwhile.
What are discount tables used for in net present value calculations?
Discount tables are used to express future cash flows in today's terms for net present value calculations.
True or False?
Net present value considers non-financial benefits or costs.
False.
Net present value ignores non-financial benefits or costs, such as environmental damage.
True or False?
The net present value considers the opportunity cost of money.
True.
The net present value considers the opportunity cost of money and can be used to consider a range of scenarios.
True or False?
The choice of discount factor is usually straightforward.
False.
Choosing an appropriate discount rate can be hit-and-miss and usually requires experience and expertise.
True or False?
Net present value relies on accurate forecasting of future cash flows.
True.
Net present value relies on accurate forecasting of future cash flows.

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