The investment decision

The investment decision is about how the firm's funds are invested in different assets.

• Long-term investment decisions are called capital budgeting decisions: buying new machines, opening a new branch, buying fixed assets.
• Short-term investment decisions (working capital decisions) concern cash, inventory and receivables.

Capital budgeting decisions are especially important, because they:

• affect the firm's earning capacity for years;
• involve huge amounts of money;
• are irreversible, except at a huge cost. A wrong one can badly damage a business.

Factors to weigh:

• the cash flows the project will bring;
• its rate of return: between two projects with the same risk, choose the one that earns more;
• the investment criteria used to judge it (such as how quickly it pays back, and the amount invested, interest rate and cash flows).