Topic 3.3 Decision - making techniques

Question 1

Advantages of Payback

Answer 1

• Simple and easy to calculate
• Emphasises speed of return; may be appropriate for businesses subject to significant market change
• Easy to compare to other projects
• Focuses on cash flow (Good for a business that is cash scarce)

Question 2

Disadvantages of Payback

Answer 2

• Tales no account of the “time value of money”
• May encourage short term thinking

Question 3

Advantages of ARR

Answer 3

• Easy to compare
• Takes into account all the money not just the amount you need to pay back]
• Looks at the whole profitability of the project - key for shareholders

Question 4

Disadvantages of ARR

Answer 4

• Harder for a business to calculate
• Doesn’t take into account value for money/inflation
• Doesn’t take into account Cash flows just profit

Question 5

What is investment Appraisal?

Answer 5

Techniques for determining whether and investment is likely to be profitable.
- Simple payback
- Average rate of return
- Net present value