chapter 16, 18 Flashcards
What does an “investment” generally refer to within a company?
Use of financial resources, typically for the acquisition of fixed assets.
What are the various forms of investment projects in a company?
- Financial investments
- investments in assets for production
- sales
- R&D
- investments divided into physical and intangible assets
Aspects of the investment term
Aspect of asset-oriented term for investment.
* Conversion of capital into assets, called “capital use”.
* Disinvestment is the reverse process.
payment-oriented investment term
* Determined by cash outflows and inflows,
* involves expenditure for acquiring the investment object,
* subsequent generation of revenue surpluses
process-oriented investment term.
* Views investment as a planning and decision-making process
* determining the use of company’s funds
disposition-oriented investment term:
* Long-term determination of financial resources in fixed assets
* limits future dispositions for companies
What is the difference between individual planning and overall planning in investment planning?
sketch investment planning as part of the company’s overall planning
Individual planning is single-object planning with stages from investment stimulus to decision.
- Investment stimulus
- problem description
- search for alternatives
- profitability analysis and assessment
- decision.
Overall planning coordinates all investment projects within the entire company.
* coordination of all investment projects within the scope of the entire company planning.
What are the impacts of investment decisions on companies?
- Long-term influence on product creation, sale process, technology, competitiveness, future profitability
- Freezing of cost structure, reflected in fixed costs
- Financial resource limitations due to long-term commitment of funds
- Need for forward-looking decision making
Summarize the consequences of investment decisions in three basic effects.
- Success Components (positive contributions to overall target system)
- Liquidity Components (ability to fulfill payment obligations)
- Risk Components (possibility that expectations don’t occur)
What are the impact criteria on investment projects?
- Technical: Measurements, performance, quality, susceptibility to malfunction, etc.
- Legal: Regulatory requirements, patents, licenses, concessions, etc.
- Social: Operational safety, flexibility, influences on staff, working atmosphere, etc.
- Economic: Investment costs, subsidies, useful life time, operating costs, taxes, etc.
What is the nature and scope of data for investment decisions?
- Presence or accessibility of information to prove profitability
- Data along a time axis showing cash inflows and outflows
- Time horizon spanning useful life of project
What is the division of cash flows in investment decisions?
- Cash flows related to entire period of project’s useful life
- Cash flows related to one year of project use
What does an investment appraisal inform about an investment project?
- Optimum economic life
- Replacement decision
- Optimum economic replacement time
- Optimum investment point in time
- Optimum investment program
- Optimum investment and financial program
- Optimum investment and production program
What are the key decisions to be made using investment appraisal methods?
objectives
- Absolute profitability of an investment project
- Relative profitability of an investment project
objective: compare investment alternatives and provide statement about contribution to company’s objectives
What are the specific assumptions made to assess profitability of investment projects?
- The model’s data and linkages are known with certainty.
- All relevant effects can be isolated and forecasted.
- No relationship exists between the alternative investment projects.
- Other decisions are made before the investment decision.
- The economic life of the investment projects is specified.
Name the static methods of investment appraisal.
- Cost comparison method
- Profit comparison method
- Average rate of return method
- Static payback method
What is the main method, decision-making levels, imputed interest cost calculated, factors does operating cost, in Cost Comparison Method (CCM)?
main method:
Differentiated cost type calculation
decision-making levels:
Total cost comparison
Performance cost comparison/unit cost comparison
Comparison of the cost functions
imputed interest cost
By multiplying the average capital tie-up by the rate of interest.
factors operating cost depends on
Technical effectiveness
Performance ratio
What are the key terms related to dynamic investment calculation?
- Current/present value: Nominal value at payment time.
- Net present value: Value of payment adjusted for a specific reference date.
- Reference date: Time when cash inflows and outflows are adjusted.
- End value: Final value of converted cash inflows and outflows.
- Compounding factor: Multiplier for present value to determine future value.
- Discounting factor: Multiplier for present value to determine past value.
- Interest or “discount rate”: Chosen rate for adjusting cash flows.
- Capital expenditure (CapEx): Funds for acquiring/upgrading physical assets.
- Cash flow surpluses: Excess cash inflows over outflows for specific periods.
- Liquidation value: Estimated selling price of an asset.
-
Capital recovery factor: Ratio of constant annuity to present value.
* Internal rate of return: Interest rate making net present values zero. - Annuity: Series of equal payments at regular intervals.
What are the influencing factors on the discount rate?
- Minimum interest rate expected by investor
- Rate of return of not considered investment alternatives
- Industry customary interest rate
- Average corporate rate of return
- Expected inflation rate
- Surcharges for special risks
- Secondary market rate of return
- Eurobor rate of return
- DAX rate of return
- ATX rate of return
What model is often used to determine the costs of equity?
Capital Asset Pricing Model (CAPM)
base: Yield of risk-free bonds (eg. government bonds, here 7%)
How is the market’s risk premium calculated?
Difference between market rate of return (long-term DAX yield; here 12%) and yield of risk-free bonds.
How is the company-specific risk premium determined?
company-specific ~-value weighted with market’s risk premium.
How are the costs of debt determined?
Taking into account all financing forms the company uses, often using a calculative interest on borrowed capital applied to all business segments.
What are 4 value levels of accounting?
- Cash inflow/outflow -> change in liquid funds -> Financial Management/Cash-Flow management
- Receipts/Expenditures -> Financial assets -> Balance Sheet
- Revenues/Expenses -> Net Equity -> Balance Sheet/P&L
- Operating result/Cost -> Operating Profit -> Cost and Result Accounting
Explain transfer of expenses to costs
- Cash Inflow – any process where the stock of cash increases
- Cash Outflow – stock of cash decreases
- Receipt – any business case that increases financial assets
- Expenditure – decreases financial assets
- Revenue – any business case that increases equity
- Expense – decreases equity
- Operating result – increase in value by internal actions
What is cost accounting and what does it provide.
Cost accounting is internally oriented – right information to the right person at right quantity at right time at minimum cost
Sketch cost cube.
Y axis – 1. Dimension Structure of Cost (Fixed Cost/Variable Cost)
X axis – 2. Dimension Possibility to influence cost (short/long-term)
Z axis – 3. Dimension Cost allocation (direct/indirect)
What are cost behavior patterns/structure of costs.
- Total Costs – Variable/Product Cost (activity level dependent); Fixed/Structure Costs (time dependent)
- Non consumable resources -> fixed costs
- Consumable resources -> variable costs
What is cost object and few examples.
Cost object is any activity for which a separate measurement of cost is desired (product, service, project, customer, department, brand category)
Which 3 special cost terms do you know?
Direct (prime) costs:
* Related to cost object and traceable
* Includes material and labor costs
Indirect (overhead) costs:
* Cannot be directly traced to cost object
* Examples: electricity, lubricants, auxiliary wages/materials
Special costs:
* Costs for unique services, not provided uniformly across products
* Includes special production costs (special processing/equipment/assemblies/tools)
* Includes special sale costs (special cargo, packaging, insurances, sales, promotions)
Classify most important cost types.
- Sunk costs (cost incurred in past, not relevant to present decisions)
- Idle time costs (unproductive time, unnecessary costs)
- Opportunity costs (values of benefits forgone when one decision alternative was chosen over other)
What are imputed costs?
Imputed costs are cost elements which do not directly correspond to any type of expense found in financial accounting. Often, they are opportunity costs.
What is imputed deprecation and what are causes for deprecation?
Imputed Depreciation:
* Refers to decrease in value/utility of fixed assets over time
* Process of distributing cost of fixed assets over its useful lifespan
Causes of Imputed Depreciation:
* Technical
* Economical
* Legal
* Political
Straight Line Method:
Assumes constant value consumption over the asset’s useful lifespan
What is imputed interest and how is it calculated.
Interest:
* Charge for the privilege of borrowing money, typically expressed as an annual percentage rate
* Represents cost of capital made available to a company
Imputed Interest:
* Concept extends not only to borrowed capital, but also to equity
* Reflects potential income from alternative investments foregone due to current investment
Imputed Interest Rate Calculation:
* (Borrowed capital / total capital) * interest on borrowed capital
* (Equity / total capital) * interest on equity
Imputed Interest for Fixed Assets:
* Assumes a steady decrease between initial investment and liquidation value
* Calculation:
* Sum initial investment and liquidation value, divide by 2 to get average capital tie-up
* Multiply average capital tie-up (ACT) by imputed interest rate to get imputed interest cost
Which 2 types of risk are there?
- Imputed risk costs – general entrepreneurial risk (company as a whole)
- special risk (risk linked to company’s activities)
What is corporate governance?
- System of rules, practices, and processes
- Ensures accountability, fairness, and transparency
- Directs and controls a company
- Balances the interests of stakeholders (shareholders, management, customers, and suppliers)
