Use investment appraisal
Explain why businesses appraise investment projects and identify the financial, strategic and risk evidence needed before committing resources.
Cambridge International AS & A Level Business 9609, 2026–2028 syllabus and 2029 syllabus, section 10.3.1. Ratio calculations use the formulae listed in the relevant Cambridge syllabus. Written practice is self-checked. Specialist review has not been completed for this lesson; these exercises do not award an official mark or establish exam readiness.
Before you begin
- Read the figures, dates and assumptions supplied in the question before calculating or interpreting an accounting result.
Work on paper. Try each question before revealing help, and explain why your method works.
Quick readiness check
Why does a business appraise an investment?
What you will learn
- Explain the need to appraise long-term investment
- Identify cash-flow, return, risk and opportunity-cost evidence
- Set out why appraisal informs but cannot replace managerial judgement
Investment appraisal structures a major choice
Investment appraisal assesses the likely costs and benefits of a long-term project before resources are committed. Projects may tie up finance, capacity, staff and management time, and can be difficult to reverse.
Appraisal supports comparison of projects, cash-flow planning and the opportunity cost of choosing one option over another. It can also expose assumptions about demand, operating costs, project life, residual value and financing.
Evidence and uncertainty both matter
Useful inputs include initial outlay, expected net cash flows and their timing, operating life, possible residual value, discount rate and qualitative effects such as strategic fit, compliance, customer service, staff capability and environmental impact.
Forecasts are uncertain. A quantified result depends on the estimates and method used, and a project with the best single figure may not be feasible or strategically suitable. Test assumptions and compare evidence rather than claiming an appraisal guarantees success.
Pause and explain
Two projects compete for limited finance. What important idea does choosing one imply about the other?
Worked example
A manufacturer can spend $200,000 on a new production line or use the funds to expand its repair service. Explain why appraisal is needed and identify two pieces of evidence for each option.
Show the worked solution
- The $200,000 has an opportunity cost and the projects compete for scarce funds.
- Compare initial and expected net cash flows over time for each project.
- Also compare capacity, demand, strategic fit, risks and qualitative effects.
Answer Appraisal helps compare the projects' expected financial returns and timing, but the decision should also consider demand, capacity, strategic fit and uncertainty. It structures the choice; it does not guarantee either forecast.
Try a topic test
Choose Easy, Normal or Difficult. Save your answers and open worked review after finishing.
Test this topic →From guided practice to a new situation
Write your answer and reasoning first. Use a hint only if you are stuck. The model solution is for self-checking; your written work is not automatically marked.
A hotel considers a $90,000 energy upgrade. Name the core financial information to forecast and two qualitative issues to investigate.
Give me a hint
Include the timing of cash flows and the assumptions that could change them.
Compare my reasoning
- Estimate initial outlay and net cash savings/inflows by year.
- State project life, residual value if relevant and appraisal rate/method.
- Consider disruption, compliance, guest comfort, staff capacity or environmental effects.
The hotel should forecast the initial outlay and net cash savings by year over the asset life, state key assumptions and any residual value, and use the required appraisal method. It should also assess installation disruption and effects on guests, compliance, staff and environmental goals.
Look for these in your work
- Outlay and cash-flow timing are included
- Life/assumptions are stated
- Qualitative factors are relevant
A project has an attractive forecast return but depends on one uncertain regulation and a new supplier. Explain how management can make the appraisal more useful.
Give me a hint
Test the assumptions and identify responses if they do not hold.
Compare my reasoning
- Model a downside case for regulatory delay or cost changes.
- Check supplier capacity, quality, contract terms and alternatives.
- Compare expected value with strategic and compliance constraints.
Management can run sensitivity or scenario analysis on regulatory timing, costs and demand, verify the supplier's reliability and contract, and identify fallback sources. It should decide whether the project remains feasible under plausible downside cases and any regulatory constraints.
Look for these in your work
- Uncertainty is explicit
- Supplier evidence is considered
- Decision relevance is stated
A company has capital for only one of two projects. Project A has a higher ARR; Project B has a positive NPV and stronger strategic fit. Explain why the appraisal must compare more than ARR.
Give me a hint
The methods capture different features, and strategy/feasibility can change the choice.
Compare my reasoning
- ARR uses average accounting profit and does not reflect cash-flow timing in the same way as NPV.
- A positive NPV indicates value under its discount-rate and cash-flow assumptions.
- Compare risk, project lives, scarce resources and strategic fit before choosing.
ARR alone does not account for the timing of cash flows in the way NPV does, while NPV is only as reliable as its forecasts and discount rate. The company should compare both methods, project risks, lives, resource constraints and strategic fit, then explain which assumptions matter most.
Look for these in your work
- Methods are distinguished
- NPV assumptions are recognised
- A contextual comparison is made
Common mistakes
- Treating forecast cash flows as certain
- Comparing projects with different lives or timing without adjusting
- Using a financial metric as the only decision criterion
What can you explain now?
Why does a business appraise an investment?
Compare with the explanation
To compare expected costs, benefits and risks before committing resources
Projects tie up funds and may be difficult to reverse.
After trying it yourself, choose your next review. This is your self-assessment.
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Make it stick
What does investment appraisal help compare, and which uncertainties and non-financial factors remain?
If you needed the solution, close it and solve the problem again from a blank page. A correct answer is stronger when you can explain the reason for each step.