Classification of Investment Projects

Managers face difficult decisions every time they want to choose investment projects for their organizations. Choosing one project means that you are foregoing another investment opportunity with an informed belief that your choice is better. One of the actions that managers take to ensure that they are making the right decision is to classify projects in many different ways.

When classifying projects for potential investments, managers consider several factors such as:

  • The amount of investment capital required, e.g. large, conservative, or small
  • Type of income required, e.g. cost savings, expansion income, sales revenue, social effects, etc.
  • Type of cash flow, e.g. ordinary or extraordinary
  • Relationship type, e.g. independent project, complementary projects, or substitute projects.
  • Attitude to risk – whether one is risk-averse or risk-tolerant.

Companies can invest in different types of projects based on the above factors. Some of the capital budgeting projects that a company can choose include:

  • Expansion projects: these projects include those that involve the development of new products or selling existing products in new markets. These are projects that are important for the growth and expansion of a company, and it involves large capital investments.
  • Acquisition of New Assets: a company may invest in a new asset such as equipment, land or new facility. The company can buy land and construct its manufacturing plant, or buy a machine to process food or print papers.
  • Replacement/Repair of Existing Assets: Existing equipment, land or motor vehicles may need substantial repairs or maintenance; which may need a significant amount of capital to invest. The company may also need to replace a worn-out equipment or machine.

Projects can also be classified by:

  • Project Size: small projects may be implemented within departments while large projects are managed by the executives.
  • Benefit to the firm: some projects are implemented to increase cash flows, others are aimed at reducing costs, and others reduce risks.
  • Degree of Dependence: independent projects v mutually exclusive projects; complementary v substitute projects.
  • Types of Cash Flows: Conventional v non-conventional cash flows.

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