Question

Suppose you are a manager and you have three potential capital investment projects from which to choose. You are on a limited budget so you can only choose one of the three potential projects. Describe at least three methods you can use to select the one project in which to invest.

Answer 1

The three methods to analyse which project to invest in are mentioned below:

(a) Payback period:

This can be used to understand how many years will be required to get back the principal amount invested in the project.

(b) Net Present value:

This can be used by utilizing the discounted net cash flows of an entity to analyze whether the venture is profitable after considering the time value of money.

(c) Internal rate of return:

This can be used to find out an investment's rate of return after excluding external factors such as the risk free rate , inflation, the cost of capital or various financial risks.