Acb III-cashflow Estimation

8/6/2019 Acb III-cashflow Estimation

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CASHFLOW

ESTIMATION

Cashflow Vs profit

Incremental cash flowComponents of cash flow


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INTRODUCTION

The most important, but the most difficult step

in capital budgeting is estimating projects

cash flows.

Evaluation techniques requires cash flows for

making investment decisions.


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INTRODUCTION

The difficulty in estimating cash flows arises

because of

Uncertainty and accounting ambiguities.

Requires considerable time, effort and money

in obtaining correct estimates of cashflows

Requires the participation of many individuals

and departments in the process


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CASHFLOWS

It is the inflow and outflow of cash.

It is the cash, which a firm can invest or pay

to creditors to discharge its obligations or

distribute to shareholders as dividends.

Cashflow should not be confused with profit.


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CASHFLOWS VS. PROFIT

Cashflow is different from profit at least for

two reasons

Profit, as measured by an accountant is

based on accrualconcept.

For computing profit, expenditures are

arbitrarily divided into revenue and capital

expenditure


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CASHFLOWS VS. PROFIT

Revenue expenditures are entirely charged to

profits while capital expenditures are not.

Only depreciation is charged to profit.

Profit = Revenue- expenses depreciation

Cashflow = Revenue expenses- capital expenditure


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INCREMENTAL CASHFLOWS

A cashflow stream is a series of cash receipts

and payments over the life of an investment.

The estimates of amounts should be made on

incremental basis.

Every investment involves a comparison of

alternatives.


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Suppose, a company is introducing a new

product, the incremental cash flows in this

case will be determined by comparing cash

flows resulting with or without introduction ofthe new project.

When incremental cash flows are calculated

by comparing with a hypothetical zero-

cashflow project called absolute cash flows


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When incremental cash flows are determined

by comparison between two real alternatives

can be called relative cash flows

Incremental cash flows assume greater

importance in case of replacement decisions.


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PROBLEMS IN DETERMINATION

OF INCREMENTAL CASH FLOWS

There are three main problems

1. Sunk cost A sunk cost is an outlay already

occurred, hence not affected by the

decision.

2. Opportunity cost for ex- Cash flows that

could be generated from an asset the firm

already owns.


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PROBLEMS IN DETERMINATION

OF INCREMENTAL CASH FLOWS

3. Effects on other parts of the firm /

externalities

Cannibalization


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Documents

Acb III-cashflow Estimation