Investment decision rule: An investment decision rule is a criterion or set of criteria used by a firm to determine whether a project or investment opportunity should be undertaken. It guides the firm in evaluating whether the expected benefits of a project justify the costs, based on specific financial metrics or principles.
Opportunity cost of capital: The opportunity cost of capital refers to the return that investors forego when they choose to invest their funds in a particular project instead of alternative investments with similar risk and time horizon. It represents the minimum acceptable return required to make an investment worthwhile, reflecting the return available elsewhere in the market.
Expected return: The expected return is the anticipated average return from an investment or project, based on its projected cash flows and associated risks. It is the return that the firm expects to earn if the project proceeds as planned.
1. What does an investment decision rule refer to?
2. What is the primary purpose of an investment decision rule within a firm?
3. Who is credited with formulating the decision rule based on NPV?
Investment decision rule — purpose?
To determine if a project’s benefits justify its costs.
Investment decision rule — purpose?
Determine if a project adds value.
Decision rules overview — key tools?
NPV, IRR, Payback, PI, each with strengths and limitations.
Opportunity cost of capital — definition?
Return foregone by choosing an investment.
Expected return — role?
Anticipated project profitability.
Cost of capital — what?
Required return to attract investors.
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