What is a project

Investment analysis concerns which projects to accept and which to reject; accordingly, the question of what comprises a "project" is central to this and the following chapters. The conventional project analyzed in capital budgeting has three criteria: (1) a large up-front cost, (2) cash flows for a specific time period, and (3) a salvage value at the end, which captures the value of the assets of the project when the project ends. While such projects undoubtedly form a significant proportion of investment decisions, especially for manufacturing firms, it would be a mistake to assume that investment decision analysis stops there. If a project is defined more broadly to include any decision that results in using the scarce resources of a business, then everything from strategic decisions and

Salvage Value: This is the estimated liquidation value of the assets invested in the projects at the end of the project life.

acquisitions to decisions about which air conditioning system to use in a building would fall within its reach.

Defined broadly then, any of the following decisions would qualify as projects:

1. Major strategic decisions to enter new areas of business (such as Disney's foray into real estate or Deutsche Bank's into investment banking) or new markets (such as Disney television's expansion into Latin America)

2. Acquisitions of other firms (such as Disney's acquisition of Capital Cities or Deutsche Bank's acquisition of Morgan Grenfell)

3. Decisions on new ventures within existing businesses or markets, such as the one made by Disney to expand its Orlando theme park to include an Animal Kingdom or the decision to produce a new animated children's movie.

4. Decisions that may change the way existing ventures and projects are run, such as decisions on deciding programming schedules on the Disney channel or changing inventory policy at Bookscape.

5. Decisions on how best to deliver a service that is necessary for the business to run smoothly. A good example would be Deutsche Bank's decision on what type of financial information system to acquire to allow traders and investment bankers to do their jobs. While the information system itself might not deliver revenues and profits, it is an indispensable component for other revenue generating projects.

Investment decisions can be categorized on a number of different dimensions. The first relates to how the project affects other projects the firm is considering and analyzing. While some projects are independent of the analysis of any other projects, and thus can be analyzed separately, other projects are mutually exclusive — i.e., taking one project will mean rejecting other projects; in this case, all of the projects will have to be considered together. At the other extreme, some projects are prerequisites for other projects down the road. In general, projects can be categorized as falling somewhere on the continuum between pre-requisites and mutually exclusive, as depicted in Figure 5.1.

Mutually Exclusive Projects: A

group of projects is said to be mutually exclusive, when acceptance of one of the projects implies that the rest have to be rejected.

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