Factors Influencing Investment Decisions

What is the investment criteria?

  • Criteria: The measures by which an investment will be judged

  • A target percentage rate of return is most common in business

  • Target return can be compared with the ARR, or used for the discount rate in NPV calculations

What are the non-financial factors?

  • Corporate objectives- Does the investment support the key objectives (e.g. revenue growth, market share)?

  • Organisational culture: What is the business’ attitude to risk-taking? How are those who make investment decisions rewarded?

What is risk and uncertainty?

  • All investment decisions involve some uncertainty

  • Changes in the external environment can change investment returns

  • Contingency planning and sensitivity analysis can help businesses address the problems created by uncertainty

What are the key issues with making investment decisions?

  • If a business wishes to grow, it needs to invest.

  • The cash spent on investment in a business is normally referred to as "capital expenditure". This can be contrasted with spending on day-to-day operations (e.g. paying for materials, and staff costs) which is known as "revenue expenditure".

What is the difference between capital and revenue?

  • Capital:

    • Cash spent on investment in the business:

      • Plant and machinery

      • Factory buildings

      • IT systems

      • Distribution equipment

      • Fixtures and fitting

  • Revenue:

    • Cash spent on day-to-day operations:

      • Raw materials

      • Energy costs

      • Wages and salaries

      • Marketing costs

      • Office Administration

What is the main difference between capital and revenue?

  • That capital expenditure is on non-current assets which have an "economic life" in the business – they are intended to be kept, rather than sold or turned into products

Why does a business need to invest in capital expenditure?

  • To add extra production capacity

  • To replace worn-out, broken or obsolete machinery and equipment

  • To support the introduction of new products and production processes

  • To implement improved IT systems

  • To comply with changing legislation & regulations

What is the problem with most businesses?

  • The finance available for capital investment is limited

  • There are usually more possible capital investment opportunities than there are available finance

  • So choices have to be made and some capital investments rejected