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Investment Decisions

An investment decision may be defined as the firm’s decision to invest its current funds most efficiently in the long-term assets in anticipation of an expected flow of benefits over a series of years. The long-term assets are those that affect the firm’s operation beyond the one-year period. The firm’s investment decisions would generally include expansion; acquisition decisions would generally include expansion, acquisition, modernization and replacement of the long-term assets. Sale of a division or business (divestment) is also as an investment decision. Decisions like the change in the methods of sales distribution, or an advertisement campaign or a research and capital. Investment Importance

Investment decisions require the firm’s growth in the long run, they affect the risk of the firm and involve in the commitment of large amount of funds. Investment decisions are irreversible or reversible at substantial loss and are the most difficult decisions to make. The effects of investment decisions extend into the future and have to be endured for a longer period than the consequences of the current operating expenditure. A firm’s decision to invest in long-term assets has a decisive influence decision to invest in long-term assets has a decisive influence on the rate and direction of its growth. A wrong decision can prove disastrous for the continued survival of the firm; unwanted or unprofitable expansion of assets will result in heavy operating costs to the firm. On the other hand, inadequate investment in assets would make it difficult for the firm to compete successfully and maintain its market share. Investment decisions generally involve large amount of funds, which make it imperative for the firm to plan its investment programmers very carefully and make an advance arrangement for procuring finances internally or extremely. These can be classified under the following categories:

(i) Expansion of existing business

(ii) Expansion of new business

(iii) Replacement and modernization.

It is difficult to find a market for such capital items once they have been acquired. The firm will incur heavy losses if such assets are scrapped. It is really a complex problem to correctly estimate the future cash flows of an investment economic, political, social and technological forces cause the uncertainty in cash flow estimation. Thus, investment decisions shape the basic character of a firm.

Most importantly investment in new products is required for the expansion of a new business and the firm may expand its activities in a new business. If a packaging manufacturing company invests in a new plant and machinery to produce ball bearing, which the firm has not manufactured before, this represents expansion of new business or unrelated diversification. Sometimes a company acquires existing firms to expand its business. In either case, the firm makes investment in the expectation of additional revenue. Investments in existing or new products may also be called as revenue-expansion investments. The main adjective of modernization and replacement is to improve operating efficiency and reduce costs, cost savings will reflect in the increased profits, but the firm’s revenues may remain unchanged. Assets become outdated and obsolete with technological changes. The firm must decide to replace those assets with new assets that operate more economically. If a cement company changes from semi-automatic drying equipment to fully automatic drying equipment, it is an example of modernization and replacement.