There are a number of different methods (e.g., NPV, ARR, payback, or IRR) that can be used to evaluate whether an organization should approve a particular project. Each method has specific advantages and disadvantages based on the scenario in which the method is used. In order to become more effective decision makers, managers should have a strong understanding of these methods so they can determine which method would be most suitable for particular situations. In this Discussion, you will refer to your professional experience to consider an example in which capital budgeting methods played a role in decision making.
Consider an example from your professional career in which capital budget methodologies played a role.
Post an analysis of capital budgeting methods to support decision making, including the following:
From your professional experience, describe an example of a monetary decision that would require the use of one or more of the capital budgeting methods (NPV, ARR, payback, or IRR).
From this example, identify which method you, as a manager, would choose to utilize in making the decision.
Illustrate why you would choose this particular method over the others.
Sample Answer
The best capital budgeting method depends on the project's characteristics and the organization's priorities. I'll describe a common corporate monetary decision and explain why the Net Present Value (NPV) method is often the superior choice.
Capital Budgeting Example: Equipment Replacement
A frequent monetary decision in my professional context (simulating a healthcare or manufacturing setting) that requires capital budgeting is replacing a critical piece of operational equipment.
Capital Budgeting Example: Equipment Replacement
A frequent monetary decision in my professional context (simulating a healthcare or manufacturing setting) that requires capital budgeting is replacing a critical piece of operational equipment.
Scenario: A regional hospital needs to replace its 10-year-old MRI machine. A new, faster MRI machine costs $2 million and is expected to last seven years. This new machine will increase patient throughput by 20% due to its speed and reduce maintenance costs by $50,000 annually. This increased capacity is projected to generate an additional $450,000 in annual cash flow from increased billing. The hospital's required rate of return (or cost of capital) is 10%.