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Basic investment appraisal techniques

Accounting profits versus relevant cash

flows

2.1 Accounting profits versus cash flows

vs

In capital investment appraisal it is more appropriate to evaluate future cash flows
rather than accounting profits.

 profits cannot be spent

 profits are subjective

 cash is required to pay dividends

Major differences between profit and cash flows will relate to:

 asset purchase and depreciation

 changes in working capital

 deferred taxation

 capitalisation of research and development expenditure

2.2 Cash flows and relevant costs

 future, incremental cash flows

Ignore:

 sunk, committed, allocated, apportioned items

 non-cash items, e.g. depreciation

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