6. CAPITAL BUDGETING

Question 1

Capital Budgeting

Answer 1

capital budgeting refers to the evaluation of future cash flows, in relation to the capital
invested. Based on this a company decides on whether to invest in a certain investment
project or not.

Question 2

Important considerations in capital budgetin

Answer 2

1. Obtain credible cash flow estimates
2. Focus on incremental cash flow
3. Ignore Sunk costs
4. Take into account the effect of depreciation

Question 3

EBITDA

Answer 3

(Earnings before interest, tax,
depreciation and amortization)

Question 4

Sunk cost

Answer 4

is a cost that has occurred before the assessment of the project and regardless of the
project.

Sunk costs must be ignored. One is concerned with incremental costs and benefits: the
recovery of the past cost is irrelevant

Question 5

incremental cash flows

Answer 5

For each investment proposal, we need to provide information on expected cash flows on an
after tax basis. In addition, the cash flow must be provided on an incremental basis, so that we
analyse only the difference between cash flow of the firm with and without the project. The
key is to analyse the situation with and without the new investment. As a result, only
incremental cash flow matters

Question 6

For example, you purchase a truck for 800,000 baht and expect its residual value in five years
(the period of depreciation decided by the government) to be 200,000 baht.

Answer 6

Depreciation amount = 800,000 – 200,000 = 600,000 baht
Annual depreciation = 600,000 baht / 5 years = 120,000 baht

Question 7

Cash flows and income after tax difference

Answer 7

Chad flows = after tax income + depreciation