Capital budgeting requires evaluation of the valuable options then choosing the most feasible. In this regard, there is need to apply quantitative analysis to forecast the future performance of the chosen option in making long-term investment decisions. Formulating strategic investment decisions therefore include gathering investment ideas, carrying out proper cost-benefit analysis on the proposed field of investment, ranking the options based ion return and sustainability, implementing the selected option, and then evaluating based on the actual performance of the option. A viable or a feasible project is normally sustainable and has higher return on capital. The option should meet the feasibility or the viability parameters.
Internal Rate of Return
This capital budgeting technique measure the rate of return on investment by discounting the current values of the cash the flows in comparison to the cash that flows out. It determines the earning in the entire life of the project in question. For example, the proposal to buy a land then leasing it for year before finally selling it is viable when this technique is applied. In the course of the four years, the land will earn steady income that is beyond the money spent in remunerating the workers (Toussaint, 2015). Additionally, the sale of the land would bring in more revenue since its value does not fluctuate but keeps going up. The market value of land rises steadily under normal circumstances. The land therefore has the highest earning potential making it desirable. Using this technique, Joslin Diabetes Center should settle for the land option.
Discounted Cash Flow
This technique takes into consideration the time value of investment or money by discounting the future return to the current or the present value. The basis of this technique is that the value of money deteriorates as time goes by. For example, one dollar today will certain be worth much more in the future. There is need to take into consideration the discount when calculating the present or the future value of money (Chan & Chan, 2004). This technique therefore discourages the land option. As much as the value of land increases and the earnings maybe steady, there is need to take into consideration the value of money based on time. A million dollars spent today to purchase land for leasing may have a higher vale than two million dollars in a span of two years. While the center will gain money in investing in land, the value of the total money plus the probable returns may be much less in comparison when discounted. In this regard, purchasing of land is not a feasible option for the center.
Payback period is an important factor in determining the feasibility of an investment option. This technique involves calculating the number of years that it will take the firm to recover the initial invested capital. The preference is always the investment option with the quickest payback period (Parr & Shank, 2011). In this regard, the land option is quite viable. Calculating payback period of return reveals that it could take less than four years to recover the initial capital invested. This method does not take into consideration the present or the future value of currency. As long as the project or the investment is able to bring the 1 000 000 dollars used to purchase it within the pre-determined time then it is viable.
Chan, A. P., & Chan, A. P. (2004). Key performance indicators for measuring construction success. Benchmarking: an international journal, 11(2), 203-221.
Parr, A., & Shanks, G. (2011). A model of ERP project implementation. Journal of information Technology, 15(4), 289-303.
Toussaint, N. D., McMahon, L. P., Dowling, G., Soding, J., Safe, M., Knight, R., ... & Power, D. A. (2015). Implementation of renal key performance indicators: promoting improved clinical practice. Nephrology, 20(3), 184-193.
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