Investment Appraisal Flashcards
What is Investment Appraisal?
Scientific approach to investment decision making, which investigates the expected financial consequences of an investment, in order to assist the business in its choices.
What is Average Rate of Return?
The average return that you would get from a project or investment as a percentage.
Used as a comparison tool to decide which project offers the best potential returns.
What is ARR compared to?
- Other potential options
- Industry standard figures
- Interest rates
ARR formulation
Total profit= profit-initial cost
Initial cost
X100
- Total profit - investment
- Divide by years
- Divide by investment
- X100
Advantages of ARR
- Helps to make logical, clear comparisons.
- Shows the true profitability of an investment.
- Easy to understand by anyone in business.
Disadvantages of ARR
- Time consuming to conduct.
- Based on predictions which could be wrong.
- Doesn’t take into account inflation.
What is Net Present Value?
The net return on an investment when all revenue and costs have taken into account the changing value of currency.
Used as a tool to decide the impact inflation could have on investment.
What is NPV compared to?
• Other potential inflation predictions.
NPV method
Net Return X Discount Factor = Present Value
Advantages of NPV
• Takes into account inflation.
• More reliable for long term
investments.
• Precise answer of viable or not.
Disadvantages of NPV
- Time consuming.
- Seen as more complex to calculate.
- Based on a prediction for what the discount factor rate will be.
What is Payback?
The length of time it takes for an investment to pay back.
Used as a comparison tool to decide which project offers the best potential returns.
What is Payback compared to?
- Other potential options.
* Industry standard figures.
Formula to calculate month payback?
Total net Contribution X 12
Payback method
- Cumulative cash flow
- Find year positive is reached investment - cumulative before reached
- Divide by year after net
