#analyst-notes #cfa-level-1 #corporate-finance #introduction #reading-35-capital-budgeting
Project classifications:
- Replacement projects. There are two types of replacement decisions:
- Replacement decisions to maintain a business. The issue is twofold: should the existing operations be continued? If yes, should the same processes continue to be used? Maintenance decisions are usually made without detailed analysis.
- Replacement decisions to reduce costs. Cost reduction projects determine whether to replace serviceable but obsolete equipment. These decisions are discretionary and a detailed analysis is usually required.
The cash flows from the old asset must be considered in replacement decisions. Specifically, in a replacement project, the cash flows from selling old assets should be used to offset the initial investment outlay. Analysts also need to compare revenue/cost/depreciation before and after the replacement to identify changes in these elements.
- Expansion projects. Projects concerning expansion into new products, services, or markets involve strategic decisions and explicit forecasts of future demand, and thus require detailed analysis. These projects are more complex than replacement projects.
- Regulatory, safety and environmental projects. These projects are mandatory investments, and are often non-revenue-producing.
- Others. Some projects need special considerations beyond traditional capital budgeting analysis (for example, a very risky research project in which cash flows cannot be reliably forecast).
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Subject 1. Capital Budgeting: Introductionood capital budgeting decisions can be made). Otherwise, you will have the GIGO (garbage in, garbage out) problem. Improve operations, thus making capital decisions well-implemented.
<span>Project classifications:
Replacement projects. There are two types of replacement decisions:
Replacement decisions to maintain a business. The issue is twofold: should the existing operations be continued? If yes, should the same processes continue to be used? Maintenance decisions are usually made without detailed analysis. Replacement decisions to reduce costs. Cost reduction projects determine whether to replace serviceable but obsolete equipment. These decisions are discretionary and a detailed analysis is usually required.
The cash flows from the old asset must be considered in replacement decisions. Specifically, in a replacement project, the cash flows from selling old assets should be used to offset the initial investment outlay. Analysts also need to compare revenue/cost/depreciation before and after the replacement to identify changes in these elements.
Expansion projects. Projects concerning expansion into new products, services, or markets involve strategic decisions and explicit forecasts of future demand, and thus require detailed analysis. These projects are more complex than replacement projects.
Regulatory, safety and environmental projects. These projects are mandatory investments, and are often non-revenue-producing.
Others. Some projects need special considerations beyond traditional capital budgeting analysis (for example, a very risky research project in which cash flows cannot be reliably forecast).
LOS
a. describe the capital budgeting process and distinguish among the various categories of capital projects;
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