ACCT 311 DB4 Reply

  

You must post 1 reply of at least 250 words. For each thread, you must support your assertions with at least 2 citations other than the textbook, and the Bible may be 1 of those sources. Everything must be in current APA format.Outside research for the replies is encouraged but not required. All research must include an in-text citation to give credit to the source of the information.

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1 day ago 

Louis Gallo 

RE: Question 3

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Louis Gallo

ACCT 311-B01

Prof. Hall

11 October 2017

Question 3

           Two of the main approaches that are used for capital budgeting in accounting are net present value and internal rate of return. Each of these methods have their own advantages and disadvantages. The purpose of these methods is so use discounted cash flows to analyze a company’s capital budgeting decisions (Garrison, Noreen, & Brewer. (2008), p. 638).

           The net present value method compares the present value of a project’s or investment’s inflows to the present value of a project’s or investment’s outflows (Garrison, Noreen, & Brewer. (2008), p. 638). It takes into account the forecasted cash flows that a company is predicted to have through the time span of the project and the weighted average cost of capital (Peavler, 2017). This type of capital budgeting is the most correct when the company managers are trying to decide if a project or investment is worth it to put money into. Net present value relies significantly on predictable estimations and assumptions. These factors include things such as investment costs, discount rate, and return values (Gould, 2017).

           The internal rate of return is the next approach to capital budgeting. Internal rate of return is the rate of return of an investment or project over its useful life (Garrison, Noreen, & Brewer. (2008), p. 644). This method finds the discount rate that will end up being equal to the net present value of zero. A more simple way of thinking of it also, is that the internal rate of return equates the present value cash outflow with the present value cast inflows (Garrison, Noreen, & Brewer. (2008), p. 644). The way the internal rate of return is found is by setting the net present value equal to zero and using the internal rate of return formula to solve for the discount rate r. The formula cannot be solved through algebra and instead either software or trial and error much be used (though trial and error would not be practical but it is possible to do) (Russel, 2017). Internal rate of return can be thought of as how fast a project is expected to grow within the certain time frame.

           An advantage of the net present value method is that by using this method, a company will be able to predict whether or not a project will be profitable to the company or cause the company to lose money. One of the main disadvantages is that in order to use net present value, the company must make projections and estimations. These estimations and assumptions are not guaranteed and the company sometimes has to react by putting more money into it than expected or investing more money to get out of it (Akers, 2012).

           The internal rate of return method also has its advantages and disadvantages. An advantage of the internal rate of return is that its only uses one discount rate. This makes the internal rate of return a very simple method to use and also very effective when used correctly. However, the disadvantage to only using one discount rate is that it makes the internal rate of return not as effective for projects that are long term and expected to have varying discount rates (Renaud, 2017). One other disadvantage for the internal rate of return is when a project has both positive and negative cash flows. If this is the situation, several internal rate of returns will need to be implemented to budget correctly.

References

Garrison, R. H., Noreen, E. W., & Brewer, P. C. (2008). Managerial accounting. Boston:   McGraw-Hill/Irwin.

Peavler. R. (2017). Net Present Value (NPV) as a Capital Budgeting Method. Business Finance. Retrieved from https://www.thebalance.com/net-present-value-npv-as-a-capital-         budgeting-method-392915

Gould. B. (2017). Net Present Value – NPV. Investopedia. Retrieved from             http://www.investopedia.com/terms/n/npv.asp

Russel. M. (2017). Internal Rate of Return - IRR. Investopedia. Retrieved from             http://www.investopedia.com/terms/n/npv.asp

Akers. H. (2012). Advantages & Disadvantages of Net Present Value in Project Selection.            Chron. Retrieved from http://smallbusiness.chron.com/advantages-disadvantages-net-       present-value-project-selection-54753.html

Renaud. R. (2017). Which is a better measure for capital budgeting, IRR or NPV?. Investopedia. Retrieved from    http://www.investopedia.com/ask/answers/05/irrvsnpvcapitalbudgeting.asp

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