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Corporate IssuersModule 5 of 7

Capital Investments and Capital Allocation

6

Concepts

4

Formulas

1

Decisions

4

Quiz Questions

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Key Concepts

6 concepts covered in this module.

Net Present Value (NPV)

Sum of PV of all cash flows (including initial investment). Accept if NPV > 0. The theoretically best capital budgeting method.

Internal Rate of Return (IRR)

Discount rate that makes NPV = 0. Accept if IRR > required return. May conflict with NPV for mutually exclusive projects.

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Formulas

4 essential formulas for this module.

NPV

NPV = Σ CFt/(1+r)t - Initial Investment

Where: r = required return (WACC for firm projects)

IRR

NPV = 0 = Σ CFt/(1+IRR)t

Where: IRR = rate where NPV equals zero

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Decision Frameworks

1 decision frameworks to guide your analysis.

NPV vs IRR: which to follow?

  • NPV: always correct ranking for mutually exclusive projects
  • IRR: useful for communication (percentage return is intuitive)

Mind Map

Visual overview of how concepts connect in this module.

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Net Present Value (NPV)

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Sum of PV of all cash flows (including initial investment). Accept if NPV > 0. The theoretically best capital budgeting method.
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