Analysis of Capital Budgeting Decision: NPV, IRR and Pay-back

Essay by ParulJainCollege, Undergraduate December 2009

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The company is looking forward to add-up additional sales of $28,000 with the help of new machine so as to expand the market sales per year. The inventory has to be increased in order to expand the sales and there is a concurrent decrease in the cash flow due to such an increase in the inventory. On the other hand, the cash flow from operating activities would increase due to the increase in sales. Therefore, with the increase in the cash from operating activities, the decrease in the cash flow will be counterbalanced. This is due to the reason that the sales of the product will increase with the increase in inventory and thus, there will be an increase in the revenues from the sales.

Inventory ManagementA substantial amount of funds is to be excluded from the inventories as they are maintained in large sizes in the firms. Therefore, in order to avoid unnecessary investment in the firms, it is very crucial to manage the inventories efficiently and effectively.

A firm may fail completely if it neglects the inventory management. This will also create a threat to the long-run profitability of the firm. The calculation of Economic Order Quantity (EOQ), the safety stock and the reorder point are included in the techniques of the inventory management. In order to effectively determine the optimum level of inventory, these inventory management techniques play a significant role (Pandey, 2007).

EOQ = √2AO/cHere,c = carrying cost, A = quantity required and O = ordering cost.

The answers of the two questions required to be attempted so as to effectively manage the inventories. The first question is answered with the help of EOQ while the second question is answered with the help of reorder point. The reorder point may be defined as the level of...