company finance 2 Gabrielle Parle.pptVIP

Ref: /aise/ The Australian Corporation (Enterprise) Some Key Financial and Economic Issues Presented by: Gabrielle Parle Overview of Presentation Part 2) 1.30 – 3.30 The Australian Corporation: The Investment Decision: Wealth Creation The Dividend Decision: Wealth Distribution Economic Issues 1. The Investment Decision: Wealth Creation 1. The Investment Decision: Wealth Creation 1. The Investment Decision: Wealth Creation 1. The Investment Decision: Wealth Creation 1. The Investment Decision: Wealth Creation Independent Vs Mutually exclusive Independent projects – accepting/rejecting one project has no impact on the accept/reject decision for the other project Mutually exclusive projects – accepting one project implies rejecting another If demand is high enough, projects may be independent If demand warrants only one investment, projects are mutually exclusive When ranking mutually exclusive projects, choose the project with highest NPV 1. The Investment Decision: Wealth Creation The pros cons of NPV NPV is the “gold standard” of investment decision rules Key benefits of using NPV as decision rule Focuses on cash flows, not accounting earnings Makes appropriate adjustment for time value of money Can properly account for risk differences between projects Though best measure, NPV has some drawbacks Lacks the intuitive appeal of payback Doesn’t capture managerial flexibility (option value) well 1. The Investment Decision: Wealth Creation IRR found by computer/calculator or manually by trial and error The IRR decision rule is: If IRR is greater than the cost of capital, accept the project If IRR is less than the cost of capital, reject the project 1. The Investment Decision: Wealth Creation Advantages of IRR Properly adjusts for time value of money; intuitive appeal Uses all cash flows (not based on “earnings”) 4 key problems in using IRR: Lending versus borrowing? Multiple IRRs (due to multiple negative cash flows) Scale problem: high IRR does not al