Rethinking Capital Budgeting

In Chapter 5, discounted cash flow (DCF) and net present value (NPV) were introduced as important decision-making tools. Amongst the many critical business applications of DCF and NPV analysis is capital budgeting. Capital budgeting analyzes long-term investments such as machines, plants, or products in a framework which enables decision makers to quantify the financial worth of an investment. A key attribute of capital budgeting is that it creates a cardinal ranking that facilitates comparison between alternate investments. This chapter introduces another capital budgeting decision-making tool, payback period, and a hybrid version of it, discounted payback, as an alternative or supplemental methodology. The advantage of payback analysis versus NPV analysis is how it focuses on the timing of cash and cash flows…