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Basics of Capital Budgeting
Capital Budgeting -
Methods/Decisions Rules for Evaluating Capital Projects
Example Projects
Year Oklahoma Oil Outpost
Western Windmill Warehouse
0 ($10,000,000) ($10,000,000) 1 $5,000,000 $2,000,000 2 $4,000,000 $3,000,000 3 $3,000,000 $4,000,000 4 $2,000,000 $5,000,000 5 $1,000,000 $6,000,000
Note: No cashflows are expected after year five for either
project, and the marginal cost of capital is 10% for each project.
Payback Period
Payback Period -
What is the Payback Period for Oklahoma Oil Outpost?
What is the Payback Period for Western Windmill Warehouse?
Interpreting the Payback Period
Decision Rules:
» Mutually Exclusive Projects -
» Independent Projects -
Deficiencies:
Discounted Payback Period
Discounted Payback Period -
What is the Discounted Payback Period for Oklahoma Oil Outpost?
What is the Discounted Payback Period for Western Windmill Warehouse?
Interpreting the Discounted Payback Period
Decision Rules:
» Mutually Exclusive Projects -
» Independent Projects -
Deficiencies:
Net Present Value (NPV)
Net Present Value -
What is the Net Present Value for Oklahoma Oil Outpost?
What is the Net Present Value for Western Windmill Warehouse?
Interpreting the Net Present Value
Decision Rules:
» Mutually Exclusive Projects -
» Independent Projects -
Deficiencies:
Internal Rate of Return (IRR)
Internal Rate of Return -
What is the Internal Rate of Return for Oklahoma Oil Outpost?
What is the Internal Rate of Return for Western Windmill Warehouse?
Interpreting the Internal Rate of Return (IRR)
Decision Rules:
» Mutually Exclusive Projects -
» Independent Projects -
Deficiencies:
Crossover Rate
Crossover Rate -
What is the Crossover rate between Oklahoma Oil Outpost (OOO) and Western Windmill Warehouse (WWW)?
Modified Internal Rate of Return (MIRR)
Modified Internal Rate of Return (MIRR) -
What is the MIRR for Oklahoma Oil Outpost?
What is the MIRR for Western Windmill Warehouse?
Interpreting the Modified Internal Rate of Return (MIRR)
Decision Rules:
» Mutually Exclusive Projects -
» Independent Projects -
Deficiencies:
Profitability Index (PI)
Profitability Index -
What is the Profitability Index for Oklahoma Oil Outpost?
What is the Profitability Index for Western Windmill Warehouse?
Interpreting the Profitability Index (PI)
Decision Rules:
» Mutually Exclusive Projects -
» Independent Projects -
Deficiencies: