Financial Decision Models (B2:M8-9) Flashcards
profitability index = ?
PV future cash inflows / PV initial investment
if the net present value (NPV) is greater than zero (positive), what decision should be made?
accept the project
NPV method of capital budgeting assumes that cash flows are reinvested at what rate?
the discount rate used in the analysis
what is the profitability index used for?
capital rationing
annual depreciation tax shield = ?
annual depreciation x tax rate
how do you calculate NPV?
PV of project inflows - PV of outflows
what is opportunity cost?
the potential benefit lost by selecting a particular course of action
annual operating cash flow = ?
pretax cash flow x (1 - tax rate) + (depreciation x tax rate)
if the internal rate of return (IRR) of a project exceeds the hurdle rate, what decision should be made?
accept the project
if IRR > hurdle rate, then NPV will be ___?
positive
are allocated fixed costs relevant?
no because the costs would be incurred regardless
does the payback period financial model consider TVM?
no
payback period formula
initial investment / increase in annual net after-tax CF
*computes the years needed to recoup an investment
what is IRR?
its the discount rate that produces a NPV of zero
*can also be thought of as the method that equates the initial investment with the PV of future cash inflows
IRR formula
investment / cash flows = present value factor
