Question

Long-term decisions about investing in the operations of a company are generally centered around purchases of equipment, machinery, buildings, or other long-term assets. They can range from a purchase of a single piece of equipment to an entire company. They are considered capital purchases because they use the organization’s financial capital (e.g., money) to purchase items to support the company’s future. The purchases are long-term assets, also known as Property, Plant, and Equipment (PP&E) and usually require a large amount of up-front investment. Often, though, a company will not recoup that investment and earn profit immediately – if at all. Therefore, financial analyses must be done to help management decide if the initial capital outlay is worthwhile. Additionally, companies tend to have limited funds to make such investments and must budget accordingly. This unit focuses on the analysis models used by management to make capital budgeting decisions. After, review this unit proceed to respond to the following discussion statement;

Are Capital budgeting decisions risky? For this discussion question:

• Research the risks associated with capital budgeting and identify the three that you believe are the most significant risks.
• Describe these risks and support your assertion with specific reasons.

Answer 1

Are capital budgeting decisions are risky, obviously Yes!, because A capital budget is a plan for investing in long-term assets such as buildings and machinery. Risk is inevitable to these investments. The various risks include cash flows not being paid in time as agreed, the risk of the investee company collapsing and also the management sinking the invested funds in risky projects.

we have to understand what is , Risk is the potential that a chosen action or activity (including the choice of inaction) will lead to a loss (an undesirable outcome). The notion implies that a choice having an influence on the outcome exists (or existed). Potential losses themselves may also be called “risks. ”

Capital budgeting (or investment appraisal) is the planning process used to determine whether an organization’s long-term investments are worth pursuing. The risk that can arise here involves the potential that a chosen action or activity (including the choice of inaction) will lead to a loss.There are different ways to measure and prepare to deal and plan for these risks, including sensitivity analysis, scenario analysis, and break-even analysis among others.

identifications of risk , some risk are as follows:-

• corporate risk
• international risk (including currency risk)
• industry-specific risk
• market risk
• stand-alone risk
• project-specific risk

Each of these risks addresses an area in which some sort of volatility could forcibly alter the plan of firm managers. For example, market risk involves the risk of losses in position due to movement in market positions.

corprate risk: Each of these risks addresses an area in which some sort of volatility could forcibly alter the plan of firm managers. For example, market risk involves the risk of losses in position due to movement in market positions.

international risk (including currency risk):

Currency Volatility It is the uncertainty of what the future exchange rate will be that scares many investors. Also, since a significant part of your foreign stock returns will be affected by the currency returns, investors investing internationally should look to eliminate this risk.

industry-specific risk:Industry Specific Risk. Risks that are specific to a certain industry. For example, the profitability of insurance companies writing deferred fixed-rate annuities is more heavily impacted by large shifts up or down, in market interest rates than industrial companies or even other insurance companies.

market risk:Market risk is the possibility of an investor experiencing losses due to factors that affect the overall performance of the financial markets in which he or she is involved. Market risk, also called "systematic risk," cannot be eliminated through diversification, though it can be hedged against in other ways.

stand-alone risk:Stand-alone risk involves the risks created by a specific asset, division, or project. It risk measures the dangers associated with a single facet of a company's operations or the risks from holding a specific asset, such as a closely held corporation.

project-specific risk:To an investor, specific risk is a hazard that applies only to a particular company, industry, or sector. It is the opposite of overall market risk or systematic risk. Specific risk is also referred to as unsystematic risk or diversifiable risk.