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MindMap Gallery Value Assessment and Investment Decision (3)

Value Assessment and Investment Decision (3)

This is a mind map about value assessment and investment decision-making (3). The main content includes: decision-making and evaluation of investment projects, estimation of investment project discount rates, and estimation of investment project cash flow.

Edited at 2024-03-08 16:07:11

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Value Assessment and Investment Decision (3)

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Outline

Value Assessment and Investment Decision (3)

Estimation of investment project cash flows

constitute

Building period

Expenses such as equipment purchase and installation expenses, advanced working capital and other expenses, and there may also be opportunity costs.

Operation period

After-tax incremental cash inflows and outflows from the implementation of new projects

Excludes interest payments and principal repayments brought by debt financing, and cash dividend payments brought by equity financing

terminal period

Recovery of advanced working capital

Asset disposal cash flow = net realizable income (book value - net realizable income) × income tax rate

Influencing factors

Only incremental cash flows are project-related cash flows

Relevant costs refer to the costs related to a specific decision that must be considered in the analysis and evaluation

Irrelevant costs refer to costs that are not relevant to a specific decision and do not need to be considered in analysis and evaluation.

Possible gains from other investment opportunities are a cost of implementing this plan and should be considered as the opportunity cost of loss.

Consider the impact of the investment plan on other projects of the company

Consider the increase in operating current assets and operating current liabilities caused by the implementation of the plan

Gross operating cash flow

=Operating income-Cash operating expenses-Income tax

=Net operating profit after tax Depreciation

=Operating income×(1-tax rate)-Cash operating expenses×(1-tax rate) Depreciation×tax rate

Estimation of investment project discount rate

Using the current capital cost of the enterprise as the capital cost of the project satisfies two conditions:

Equal risk assumption (the same operating risk): The project risk is the same as the average operating risk of the company's current assets

Equal capital structure assumption (same financial risk): The company continues to use the same capital structure to finance new projects

Use the comparable companies method to estimate the capital cost of investment projects

calculation steps

Unloading financial leverage of comparable companies: β assets = β equity ÷ [1 (1-T) × (net debt/equity)]

Load Dai’s estimated investment project financial leverage: β equity = β assets × [1 (1-T) × (net debt/equity)]

Calculate the cost of shareholders’ equity Rs = Rf β equity × (Rm-Rf) based on the β equity of the investment project.

Calculate the capital cost of the investment project (WACC) = weighted average capital cost = after-tax debt capital cost × debt capital proportion Equity capital cost × equity capital proportion

Decision-making and evaluation of investment projects

Investment project evaluation indicators

Basic indicators

Net present value NPV

Calculation: Present value of future cash flows - original investment amount

Decision-making principle: NPV>0, the project can increase shareholder wealth and should be adopted

evaluate

Advantages: Wide applicability, theoretically more complete than other methods

shortcoming

Absolute values have certain limitations when comparing projects with different durations and investment amounts.

Appropriate capital costs need to be estimated in advance

Present value index PI

Calculation: Present value of future cash flows/original investment amount

Decision-making principle: PI>1, indicating that unit investment can bring net income and should be adopted

evaluate

Advantages: Relative numbers eliminate differences in investment amounts and facilitate comparison of projects with different investment amounts.

shortcoming

Does not eliminate differences in project deadlines

Appropriate capital costs need to be estimated in advance

Intrinsic rate of return IRR

Calculation: It is the discount rate when NPV=0

Decision-making principle: IRR > company capital cost, indicating that the project meets the minimum return on investment and should be adopted

evaluate

Advantages: reflects project profitability, relative numbers are easy to compare, and there is no need to estimate capital costs in advance

Disadvantages: During the project period, the net cash flow alternates between positive and negative, and multiple IRRs may occur.

Auxiliary indicators

payback period

calculate

Static payback period: the time required for the future net cash flow caused by an investment to accumulate to the amount equal to the original investment.

Dynamic payback period: Taking into account the time value of money, the time required for the future net cash flow caused by an investment to accumulate to be equal to the original investment amount.

Decision-making principle: Payback period PP < expected payback period, project risk meets the minimum requirements, and can be adopted

evaluate

Advantages: Easy to understand and can generally measure the liquidity and risk of the project. The static payback period is easy to calculate, while the dynamic payback period takes into account the value of time.

Disadvantages: The static payback period does not consider the time value, neither of them considers the cash flow after the payback period, and does not measure profitability. It is easy for companies to accept short-term projects and abandon strategic long-term projects.

accounting rate of return

Calculation: = annual average after-tax operating net profit/original investment × 100%

Decision-making principle: Accounting rate of return > expected rate of return, the project profit meets the minimum requirements, and can be adopted

evaluate

advantage

Project profitability can be measured, easy to understand, and data is easy to obtain

Taking into account all profits over the entire project life

Facilitates management of performance expectations and project follow-up evaluation

shortcoming

Using book profits rather than cash flows ignores the impact of depreciation on cash flows

Ignores the impact of the time distribution of net profits on the economic value of the project

Investment project decisions

Independent project decision-making: as long as it meets the evaluation criteria for a single investment project, it can be adopted

mutually exclusive project decisions

Principle: Choose the best solution and choose the solution with the greatest economic benefits

method

The lifespan is the same: choose the one with the largest net present value

Different life periods: common life method/equal annuity method

limitation

The project reset assumption does not hold true in some areas where technology advances rapidly

Failure to account for rising replacement costs due to severe inflation

Failure to consider long-term competition may result in a decrease in net profit or even elimination of the project.

Capital allocation when total amount is limited

Principle: Maximize the net present value of limited resources

Method: Sort all projects according to the present value index, and find the combination with the largest net present value under the total capital constraint

General approach: Arrange all projects into different combinations, calculate the cumulative investment and cumulative net present value of each combination, exclude combinations that exceed the capital limit, and select the combination with the largest cumulative net present value among the remaining combinations.

Applicability: Only applicable to capital allocation in a single period, not applicable to capital allocation issues in multiple periods