Documente Academic
Documente Profesional
Documente Cultură
The payback rule is often used by large and sophisticated companies when making
relatively small decisions. Just as important as the investment decision itself is the
company’s ability to evaluate the manager’s decision-making ability. Under the NPV
rule, a long time may pass before one decides whether or not a decision was correct. With
the payback rule we now in two years whether the manager’s assessment of the cash
flows was correct.
The payback method could be used by small, privately held firms with good growth
prospects but limited access to the capital markets. Quick cash recovery may enhance the
reinvestment possibilities for such firms
When questions of controlling and evaluating the manager become less important than
making the right investment decision, the payback period is used less frequently
This document is the intellectual property of Muhammad Irfan Rashid Khan. All copyrights are reserved.
You can only distribute this document with his consent.
Step Three: Determining AAR
The most important flaw in the AAR method is that it does not use the right raw
materials.
It uses the net income figures and the book value of the investment (from the
accountant’s books) to figure out whether to take the investment. Conversely, the NPV
rule uses cash flows.
Second, AAR takes no account of timing
Third, just as the payback period requires an arbitrary choice of a cutoff date, the AAR
Method offers no guidance on what the right targeted rate of return should be.
Projects financed by lease arrangements also produce negative cash flows followed by
Positive ones. We study leasing carefully in a later chapter, but for now we will give you
a hint. Using leases for financing can sometimes bring substantial tax advantages. These
advantages are often sufficient to make an otherwise bad investment have positive cash
flows following an initial outlay. But after a while the tax advantages decline or run out.
The cash flows turn negative when this occurs. In theory, a cash flow stream with M
changes in sign can have up to M positive internal rates of return
If the initial cash flow is positive—and if all of the remaining flows are negative—there
Can only be a single, unique IRR
For, mutually exclusive events you can accept A or you can accept B
Or you can reject both of them, but you cannot accept both of them
This document is the intellectual property of Muhammad Irfan Rashid Khan. All copyrights are reserved.
You can only distribute this document with his consent.
Problems Specific to Mutually Exclusive Projects:
This document is the intellectual property of Muhammad Irfan Rashid Khan. All copyrights are reserved.
You can only distribute this document with his consent.