Term
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Definition
| the process of evaluating capital projects, projects with cash flows over more than one year. |
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Term
| The four steps of the capital budgeting process are... |
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Definition
1) generate investment ideas
2) analyze project ideas
3) create firm-wide capital budget
4) monitor decisions and conduct a post-audit |
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Term
| Categories of capital projects include.... |
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Definition
1) replacement projects for maintaining the business or for cost reductions
2) expansion projects
3) new product or market development
4) mandatory projects to meet environmental or regulatory requirements
5) other projects, such as research and development or pet projects of senior management |
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Term
| Capital budgeting decisions should be based on... |
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Definition
| incremental after-tax cash flows, the expected differences in after-tax cash flows if a project is undertaken. Sunk costs are not considered, but externalities and cash opportunity costs must be included in project cash flows. |
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Term
| Acceptable independent projects can... |
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Definition
| all be undertaken, while a firm must choose between or among mutually exclusive projects |
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Term
| Project sequencing concerns... |
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Definition
| the opportunities for future capital projects that may be created by undertaking a current project |
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Term
| If a firm cannot undertake all profitable projects because... |
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Definition
| of limited ability to raise capital, the firm should choose that group of fundable positive NPV projects with the highest total NPV |
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Term
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Definition
| the sum of the present values of a project's expected cash flows and represents the increase in firm value from undertaking a project. Positive NPV projects should be undertaken, but negative NPV projects are expected to decrease the value of the firm. |
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Term
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Definition
| the discount rate that equates the present values of the project's expected cash inflows and outflows and thus, is the discount rate for which the NPV of a project is zero. |
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Term
| A project for which the IRR is greater (less) than the discount rate will have an NPV that is... |
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Definition
| positive (negative) and should be accepted (should not be accepted). |
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Term
| The payback (discounted payback) period is... |
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Definition
| the number of years required to recover the original cost of the project (original cost of the project in present value terms) |
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Term
| The profitability index is... |
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Definition
| the ratio of the present value of a project's future cash flows to its initial cash outlay and is greater than one when a project's NPV is positive. |
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Term
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Definition
| plots a project's NPV as a function of the discount rate, and it intersects the horizontal axis (NPV=0) at its IRR. |
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Term
| If two NPV profiles intersect at some discount rate... |
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Definition
| that is the crossover rate, and different projects are preferred at discount rates higher and lower than the crossover rate. |
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Term
| For projects with conventional cash flow patterns, the NPV and IRR methods produce... |
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Definition
| the same accept/reject decisions, but projects with unconventional cash flow patterns can produce multiple IRRs or no IRR. |
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Term
| Mutually exclusive projects can be ranked based on their NPVs... |
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Definition
| but rankings based on other methods will not necessarily maximize the value of the firm |
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Term
| Small companies, private companies, and companies outside the US are more likely to... |
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Definition
| use techniques simpler than NPV, such as payback period |
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Term
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Definition
| a direct measure of the expected change in firm value when undertaking a project |
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