Capital Investment Decisions
Capital Investment Decisions, also known as Capital Budgeting, are long-term financial choices made by a business or bank. These decisions involve spending a large amount of money today to get benefits over many future years. For example, when a bank decides to open a new branch or buy a new digital banking software, it is making a capital investment decision. These decisions are very important because they involve huge sums of money and are usually permanent.
Concepts (3)
IRR is the expected annual rate of return that an investment will earn. It is the 'break-even' discount rate. If the IRR of a project is 15% and the bank can borrow money at 10%, the project is profitable.
IRR is the expected annual rate of return that an investment will earn. It is the 'break-even' discount rate. If the IRR of a project is 15% and the bank can borrow money at 10%, the project is profitable. It is popular because it is expressed as a percentage, which is easy for managers to understand compared to an NPV figure.
This is the time required to recover the cost of an investment. It is a simple measure of risk. Shorter payback periods are usually better because the money is at risk for a shorter time.
This is the time required to recover the cost of an investment. It is a simple measure of risk. Shorter payback periods are usually better because the money is at risk for a shorter time. For example, if a machine costs 2 lakh rupees and saves 50,000 rupees a year, the payback is 4 years. It ignores any profits made after the 4th year.
NPV is the difference between the current value of cash coming in and the cash going out over time. It uses a discount rate to find what future money is worth today.
NPV is the difference between the current value of cash coming in and the cash going out over time. It uses a discount rate to find what future money is worth today. If you invest 100 rupees today to get 110 rupees next year, and the interest rate is 10%, your NPV is zero. A positive NPV means the project adds value to the bank. It is the most reliable tool for decision making.
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Start Lesson: Internal Rate of Return (IRR)