Question

What is a scholarly definition of the term capital budgeting?

Define the following terms?

• project’s initial cost,
• project’s cash flows
• interest rates
• Net Present Value
• Internal Rate of Return
• Demonstrate how NPV and IRR are calculated
• Demonstrate how managers arrive at a decision to invest or not to invest when comparing internal rate of return and cost of capital

Answer 1

1) Capital budgeting means the systematic investment for development of capital with a long term goal of achieving profit to the organisation .

2)

a) The investment which will be made for starting of any project is called as project intial cost. The cost include the stages of planning , design till the product is ready

b) Project cash flow means that total money that we spend and the total money which we get on a project.

Cash outflow : Investment

Cash inflow: Revenue

C) Interest rates: The rate at which the lender will lend money to borrower is called interest rates.

d) Net Present value: The difference between the present value of cash inflow and outflow of a any project will give the net present value.

e) Internal rate of return: It is also called as discount rate . The internal rate of return is the rate at which the return on an investment is found. It shows the profitability of any investment.

NPV must be zero to find the IRR

g) If the internal rate of return is more than the MARR value than the manger will agree to invest in the project. If the MARR is more than IRR than the manager will reject the project. If the manager have to decide between two or more projects than he will see which project has higher IRR and he will invest in that project.