Investment_Criteria

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1、M.Sc.FinanceM.Sc.Investment&FinanceM.Sc.InternationalBanking&FinanceandM.Sc.InternationalAccounting&Finance2011/201240901–FinanceIINVESTMENTCRITERIAJRDavies120Inthischapterwewillevaluatethecriteriathataremostfrequentlyrecommendedinthefinancialliteraturefo

2、rtheevaluationofinvestments,thenetpresentvalue(NPV)andtheinternalrateofreturn(IRR)rules.Wewillexaminetheconsistencyoftheseinvestmentcriteriawiththeobjectiveofservingtheinterestsoftheshareholders.Wewillconsidersomeoftheproblemsposedbytheuseoftheinternalrat

3、eofreturnasaninvestmentcriterionanddiscusssomeofthewaysinwhichtherateofreturncanbemodifiedtoovercometheseproblems.Wewillalsoconsidertwocriteriathatarewidelyusedinpracticedespitesomeobvioustheoreticalshortcomings,thepaybackperiodandtheaccountingrateofretur

4、n.Inaddition,wewilldiscusstheproblemsofcapitalrationing–determiningtheoptimalchoiceofinvestmentswhenthereareinsufficientfundsavailabletofundallprofitableprojects.ObjectivesBytheendofthechapteryoushouldbeableto:°appreciatetheadvantagesofusingthenetpresentv

5、aluetoevaluateinvestmentproposals°identifythestrengthsandweaknessesoftheinternalrateofreturnasaninvestmentcriteria°recognisetheproblemsposedfortheinternalrateofreturnbymutuallyexclusiveinvestmentsandinvestmentscharacterisedbymorethanonebreakevenrateofretu

6、rn°usethepaybackperiodtoassessinvestmentswhilstappreciatingitslimitationsasaninvestmentcriterion°usetheaccountingrateofreturntoevaluateinvestmentsandidentifyitsshortcomings°appreciatethenatureofthecapitalrationingproblemandsomeofthetechniquesemployedtodea

7、lwiththeproblem.1Investmentcriteria:discountedcashflowrulesNetpresentvalueruleAswehaveseen,thenetpresentvalueapproachtotheappraisalofaninvestmentrequirestheconversionofallfutureexpectedcashflowsintotheirequivalentvaluestodaysoastoallowforthetimecostofmoney

8、.Thediscountedcashflowsarethensummedtoseewhetherornottheinvestmentcanbeexpectedtoproduceanetbenefitorloss,referredtoasthenetpresentvalue.Apositivenetpresentvalueindicatesthatthecapitalcommittedtoaninvestmentcanberec