FINANCIAL MANAGEMENT

CAPITAL BUDGET TECHNIQUES

MBA STUDENT: MUNGUNTSATSRAL

CONTENT
What is Payback
Period?
Discounted cash
flow methods
Calculations,
acceptance
criterion and
advantages of
DCF

According to the Capital

Budgeting Technique we able
to comprehend methods of
project evaluation and
selections; how sensitivity
analysis allows and crucial 3
points of discounted cash flow
and so on

HIGHLIGHTS
Payback period
Discounted cash flow
Internal Rate of Return
Net present value
Profitability Index
Calculations of DCF
Acceptance criterion of DCF
Advantages of DCF

1. What is Payback Period?

Payback period is the duration of the time
which required for the cumulative expected
cash from an investment project to equal the
initial cash outflow.

Steps of payback period

There are 4 main steps for determining and calculating the
payback period.
Accumulating the cash flows which occur after the initial
outlay in a cumulative inflows column
Cumulative total should not exceed in initial outlay
Following years need to be payback the initial cash of
investment thus take the initial outlay minus the cumulative
total from step 2, afterall divide this amount by the next
years cash inflow
To get payback period in years, take the whole figure
determined in step 2 and add to it the fraction of a year
determined in step 3.

2. DISCOUNTED CASH FLOW

Discounted cash flow is a techniques which can be use any
method of investment project evaluation and selection that
adjusts cash flows over time for the time value of money.
THERE ARE 3 MAIN DISCOUNTED CASH FLOW:

Internal
rate of
return
/IRR/

Net
present
value
/NPV/

Profitabilit
y index
/PI/

The present
value of an
investment
projects net
cash flows
minus the
projects
initial cash
outflow

PI

The discount
rate that
equates the
present
value of the
future net
cash flows
from an
investment
project with
the projects
initial cash
outflow

NPV

IRR

Discounted cash flow

methods
The ratio of
the present
value of a
projects
future net
cash flows to
the projects
initial cash
outflow

3. Calculation of Discounted

cash flow methods

IRR
NP
V
PI

If the initial cash outflow or cost occurs at time 0, it is represented

by that rate, IRR such as: ICO=CF1/(1+IRR)1+CF2/

(1+IRR)2+.+CFn(1+IRR)n

The NPV of an investment proposal is the present value

of the proposals net cash flows less the proposals
initial cash outflow. In formula is: NPV=CF1/

(1+k)1+CF2/(1+k)2+CFn/(1+k)n-ICO

The present value of future net cash flows to the initial

cash outflow. It can be expressed as: PI={CF1/

(1+k)1+CF2(1+k)2+CFn/(1+k)n}/ICO

Acceptance criterion of

IRR
NP
V
PI

Discounted cash flow

methods

The acceptance criterion generally employed with

the internal rate of return method is to compare
the internal rate of return to a required rate of
return, known as the cutoff or hurdle rate.

If an investment projects net present value is zero or more,

the project is accepted; if not, it is rejected. Another way to
express the acceptance criterion is to say that the project
will be accepted if the present value of cash inflows exceeds
the present value of cash outflows.

As long as the profitability index is 1.00 or greater,

the investment proposal is acceptable. For any
given project, the net present value and the
profitability index methods give the same acceptreject signals.