Investment Appraisal is a business activities, involves an element of uncertainty, because expenditure is incurred today in order to produce some benefit in the future. Investment appraisal techniques are designed to aid decision-making regarding such investment projects.
One of the key areas of long-term decision-making that firms must tackle is that of investment – the need to commit funds by purchasing land, buildings, machinery and so on, in anticipation of being able to earn an income greater than the funds committed. In order to handle these decisions, firms have to make an assessment of the size of the outflows and inflows of funds, the lifespan of the investment, the degree of risk attached and the cost of obtaining funds.
The main stages in the capital budgeting cycle can be summarized as follows:
- Forecasting investment needs.
- Identifying project(s) to meet needs.
- Appraising the alternatives.
- Selecting the best alternatives.
- Making the expenditure.
- Monitoring project(s).
We can classify capital expenditure projects into four broad categories:
- Maintenance – replacing old or obsolete assets for example.
- Profitability – quality, productivity or location improvement for example.
- Expansion – new products, markets and so on.
- Indirect – social and welfare facilities.
Even the projects that are unlikely to generate profits should be subjected to investment appraisal. This should help to identify the best way of achieving the project’s aims. So investment appraisal may help to find the cheapest way to provide a new production, even though such a project may be unlikely to earn profits for the company.
Here, we are going to compare between two-investment appraisals. These two are going to be about jute and tea. We will discuss which of these two will be more profitable as an investment.