Why Is the Investment Appraisal Process so Important?

A) Why is the investment appraisal process so important?

Capital Investment Appraisal is of fundamental importance because:

1. Large Amount of Company Resources: Involvement of large amount of company resources and efforts which will necessitate careful evaluation to be undertaken before a decision is reached.

2. Maximization of Shareholder wealth: Investment decision is linked with strategic and tactical business decisions and therefore need to achieve desired long-term objectives. The most usual objective being the maximization of shareholder wealth.

3. Difficult to Reserve: It can be very expensive and perplex to reserve an investment decision so caution need to be exercised in reaching the initial investment decision.

4. High Risk Involvement: Projected future benefits and costs are hard to forecast. As a result, the risk and uncertainty of undertaking medium to long-term investment can be high.

B) What is the payback period of each project? If AP Ltd imposes a three year maximum payback period which of these projects should be accepted?

Payback period for project A:-

| | | |
|YR |NCF |CF |
|1 |20 |20 |
|2 |30 |50 |
|3 |40 |90 |
|4 |50 |140 |
|5 |70 |210