Question

What is an incremental cash flow for a project? What concepts do we need to examine to help understand how to estimate the incremental cash flow of a project? What else is needed for deciding whether or not to choose a project?

Answer 1

Incremental cashflows are the additional cashflows generated by a firm from a new investment or project. A company decide whether to accept or reject a project based on the incremental cashflows. A firm can accept the new project if there is a positive incremental cashflow.

Incremental cashflow = Additional sales - Additional expense - Initial Investment

Or

Incremental cash Inflows - Initial Investment

Incremental cashflow is estimated by comparing the cashflows by accepting the project and cashflows by not accepting or rejecting the project.

Net Present Value method, IRR analysis, Discounted payback period and Payback period are some of the methods for deciding whether to accept a project or not.

NPV is the net present value of cashflows from a project over the useful life of project.

Internal Rate of Return is the rate at which the net present value of cashflows of project equals to zero.

Payback period is the period in which the net cashflows from a project equals to the initial investment.

Discounted payback period is the period in which discounted cashflows from a project equals to the initial investment.