Page 1 - Lesson Note 2

SAI INTERNATIONAL SCHOOL
Class-12
th
Business studies
Chapter – 9, Financial Management
Topics: Investment decision, Financing decisions and factors affecting.

(Lesson - 31)

Investment Decision

A firm’s resources are scarce in comparison to the uses to which they can be put.

A firm, therefore, has to choose where to invest these resources, so that they are
able to earn the highest possible return for their investors.

The investment decision, therefore, relates to how the firm’s funds are invested
in different assets. Investment decision can be long-term or short-term.

A long-term investment decision is also called a Capital budgeting decision.

It involves committing the finance on a long-term basis. For example, making
investment in a new machine to replace an existing one or acquiring a new fixed

asset or opening a new branch, etc. These decisions are very crucial for any
business since they affect its earning capacity in the long run. The size of assets,

profitability and competitiveness are all affected by capital budgeting decisions.
Moreover, these decisions normally involve huge amounts of investment and are
irreversible except at a huge cost. Therefore, once made, it is often almost

impossible for a business to wriggle out of such decisions. Therefore, they need to
be taken with utmost care. These decisions must be taken by those who

understand them comprehensively. A bad capital budgeting decision normally has
the capacity to severely damage the financial fortune of a business.

Short-term investment decisions (also called working capital decisions) are
concerned with the decisions about the levels of cash, inventory and receivables.

These decisions affect the day-to-day working of a business. These affect the
liquidity as well as profitability of a business. Efficient cash management,

inventory management and receivables management are essential ingredients of
sound working capital management.