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Flashcards covering key capital budgeting and financial decision concepts, including NPV, IRR, payback period, and investment choice rules.
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Net Present Value (NPV)
The sum of the present values of cash flows minus the initial investment; used for ranking projects and value creation. Accept if NPV > 0.
Internal Rate of Return (IRR)
The discount rate at which NPV equals 0. For independent projects, accept if IRR > required return. For mutually exclusive projects, accept the project with the higher IRR only if IRR > cost of capital and there's no conflict with NPV.
Crossover Rate
The rate at which NPV of Project A equals NPV of Project B. Calculated by subtracting Project B cash flows from Project A, then finding the IRR of the differences.
Payback Period (Undiscounted)
The time it takes to recover the initial investment, calculated without considering the time value of money.
Discounted Payback Period
Similar to the payback period, but each cash flow is discounted before calculating the recovery time.
Future Value (FV)
The value of an asset or investment at a specified date in the future, based on an assumed rate of growth.
Present Value (PV)
The current value of a future sum of money or stream of cash flows, given a specified rate of return.
Independent Projects (Investment Choice Rules)
Accept all projects with NPV > 0.
Mutually Exclusive Projects (Investment Choice Rules)
Pick the project with the highest NPV.
Break-Even Rate of Return
The rate of return at which an investment neither gains nor loses money.
Lottery & Annuity Problems Formula
Use present value of annuity: PV=PMT⋅[1−(1+r)−tr]
Capital Expenditures on Cash Flow Statement
Look in Cash Flow from Investing for Purchase of property, plant, and equipment
IRR and NPV Conflicts
Choose the project with the higher NPV for mutually exclusive projects.