Chapter 13 Flashcards
what are incramental CF’s
company’s cash flows with the project - company’s cash flows without the project
what is the most important and difficult step in capital budgeting
estimating a proposals relevant cash flows
for capital budgeting purposes is a projects net cash flows or its accounting income relevent
net cash flows
How are asset purchases treated differently for cash flows vs. accounting income
accounting: the purchase of fixed assets is not a deduction from accounting income
cash flows: the purchase of a fixed asset is a negative cash flow
How are non cash purchases treated differently for cash flows vs. accounting income
accounting: subtract non cash charges
cash flows: add them back in
how do changes in net operating working capital affect cash flows
will be added to cash flows
how do interest expense get accounted for in cash flows vs. accounting income
accounting: interest expenses are subtracted
cash flows: interest not subtracted
what are expansion projects
when a firm makes an investment in a new facility
what is a replacement project
when a firm replaces existing assets, generally to reduce costs
what are sunk costs
an outlay that has already occurred or had been committed and hence is not affected by the decision under consideration
what are opportunity costs
the cash flows that could be generated from assets the firm already owns
what are externalitites
the effects of a project on other parts of the firm or on the environment
what does negative within-firm externalities mean
- the new business eats into current business
- the loss of CF should be considered
what does positive within-firm externalities mean
a new project can be complementary to an old one
what are environmental externalities
cost to meet environmental regulations and maintain goodwill
incremental cash flows four categories
- initial costs
- operating cash flows over project life
- changes in net working capital
- terminal year cash flows
What are the three ways to measure stand-alone risk also known as uncertainty of CF
- sensitivity analysis
- scenario analysis
- Monte Carlo simulation
what is a sensitivity analysis
percentage change in NPV that results from a given percentage change in an input variable when other inputs are held at their expected values
what do steeper sensitivity lines show
greater risk
what is scenario analysis
shows what would happen to the project NPV if several of the inputs turn out to be better or worse than expected
what does the coefficient variation measure in a scenario analysis
measure the amount of risk per dollar of NPV
-company stand-alone risk
what is a simulation analysis
a probability of NPV is based on sample of simulated values
what do sensitivity, scenario and simulation analyses all ignore
diversification, they only measure standalone risk
What is a real option
traditional capital budgeting theory that assumes that a project is like a roulette wheel.
what are types of real options?
- investment timing option (wait until more information is available)
- growth options
- abandonment options
- flexibility options
