Revision NotesPast Papers
A LevelBusinessCambridge (CIE)Revision Notes5. Finance & AccountingInvestment Appraisal (A Level)Investment Appraisal Decisions

Investment Appraisal Decisions (Cambridge (CIE) A Level Business): Revision Note

Exam code: 9609

Lisa Eades

Written by: Lisa Eades

Reviewed by: Steve Vorster

Updated on

Quantitative results and decision-making

  • When a business is deciding whether to invest in a project, the quantitative methods of payback period, average rate of return (ARR) and net present value (NPV) can help it to make an informed choice

  • They are likely to set specific investment criteria

Quantitative investment appraisal criteria

Method

Explanation

Example

Payback period

  • A shorter payback period is usually preferred

  • It means the business gets its money back faster

  • A firm may only accept investments with a payback period of less than 3 years

Average rate of return (ARR)

  • The investment's return is compared to other possible uses of the money, such as placing it into an interest-paying account

  • A business might set a rule that projects must achieve at least 15% ARR to be approved

Net present value (NPV)

  • A positive NPV means an investment is financially worthwhile

  • A business may only accept projects with a positive NPV above $5,000 to ensure added value

Evaluation of quantitative methods

  • Using quantitative methods to make investment decisions has a range of advantages

    • It helps reduce risk by avoiding unprofitable investments

    • It makes comparisons between different projects more objective and data-driven

    • It enables managers to set clear and measurable targets for investment decisions

  • However, these methods focus on financial results

    • Good decisions also consider non-financial factors like environmental impact, employee wellbeing or customer satisfaction

Qualitative factors and investment decisions

  • Non-financial factors can be just as important as quantitative analysis when making investment decisions

Examples of qualitative factors affecting investment decisions

Qualitative factor

Explanation

Key question

Business aims and objectives

  • The investment should align with the business’s overall goals (e.g. growth, sustainability, social impact)

  • Does the investment support the business’s mission and long-term goals?

Stakeholder impact

  • Consider how the investment will affect employees, customers, suppliers, and the local community

  • Will it lead to job losses, new opportunities, or community disruption?

Environmental impact

  • Projects that harm the environment may damage reputation or go against ethical values, while green projects support sustainability

  • Will the project harm or protect the environment?

Risk tolerance

  • Some businesses are more willing to take risks depending on size, finances, and confidence in the market

  • Is the business willing and able to take on the level of risk involved?

Comparison of investment appraisal methods

  • Each of the methods of investment appraisal measures a different metric and is more appropriate in certain situations

  • Each method also has a range of limitations of which users should be aware when using the method to make investment decisions

Comparing investment appraisal methods

Method

What it measures

When to use It

Key limitations

Payback period

  • The time it takes to recover the initial investment from cash inflows

  • When the business values speed of repayment and wants to reduce risk, especially in uncertain markets

  • It ignores total profitability and cash flows after payback

  • It does not account for the time value of money

Average rate of return (ARR)

  • The average annual profit earned, expressed as a percentage of the investment

  • Useful for comparing profitability between multiple projects

  • Simple for non-financial managers to understand

  • It ignores timing of cash flows and the time value of money

  • It is based on accounting profit, not cash

Net present value (NPV)

  • The present value of future returns minus the initial investment, using a discount rate

  • Best for large or long-term investments where risk and time value of money need to be considered

  • It is more complex to calculate

  • Results depend on the chosen discount rate

  • It may be harder to explain to stakeholders

You've read 0 of your 5 free revision notes this week

Unlock more, it's free!

Join the 100,000+ Students that ❤️ Save My Exams

the (exam) results speak for themselves:

    Previous:Methods of Investment Appraisal
    Author
    Reviewer
    Lisa Eades

    Author: Lisa Eades

    Expertise: Business Content Creator

    Lisa has taught A Level, GCSE, BTEC and IBDP Business for over 20 years and is a senior Examiner for Edexcel. Lisa has been a successful Head of Department in Kent and has offered private Business tuition to students across the UK. Lisa loves to create imaginative and accessible resources which engage learners and build their passion for the subject.

    Steve Vorster

    Reviewer: Steve Vorster

    Expertise: Economics & Business Subject Lead

    Steve has taught A Level, GCSE, IGCSE Business and Economics - as well as IBDP Economics and Business Management. He is an IBDP Examiner and IGCSE textbook author. His students regularly achieve 90-100% in their final exams. Steve has been the Assistant Head of Sixth Form for a school in Devon, and Head of Economics at the world's largest International school in Singapore. He loves to create resources which speed up student learning and are easily accessible by all.