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What is profitability analysis?
An analysis of costs and revenue to determine whether or not a venture will make a profit, and, if so, how much. This is important information in deciding on whether to make an investment. The length of time required to repay the initial investment can be a critical factor.
How can one determine the required rate of return for an investment?
The required rate of return for an investment can be determined by considering factors such as the risk level of the investment, the current market interest rates, and the investor's own financial goals and risk tolerance. This rate is typically calculated based on the expected return needed to compensate for the risk taken on by investing in a particular asset.
How can a break-even analysis can help an entrepreneur planning to launch a business?
It tells the entrepreneur how long it will take to regain the initial investment of capital, giving potential investors an idea of when they will begin to see profits on their investment, and it also helps determine how much initial seed capital will be required to get the business up and running and financed until enough profit can be produced for the business to become self-sustained.
How can a break even analysis can help an entrepreneur planning to launch a business?
It tells the entrepreneur how long it will take to regain the initial investment of capital, giving potential investors an idea of when they will begin to see profits on their investment, and it also helps determine how much initial seed capital will be required to get the business up and running and financed until enough profit can be produced for the business to become self-sustained.
Determinants of required rates of return?
In this section, we continue our consideration of factors that you must consider when selecting securities for an investment portfolio. You will recall that this selection process involves finding securities that provide a rate of return that compensates you for: (1) the time value of money during the period of investment, (2) the expected rate of inflation during the period, and (3) the risk involved. The summation of these three components is called the required rate of return. This is the minimum rate of return that you should accept from an investment to compensate you for deferring consumption. Because of the importance of the required rate of return to the total investment selection process, this section contains a discussion of the three components and what influences each of them. The analysis and estimation of the required rate of return are complicated by the behavior of market rates over time. First, a wide range of rates is available for alternative investments at any time. Second, the rates of return on specific assets change dramatically over time. Third, the difference between the rates available (that is, the spread) on different assets changes over time. First, even though all these securities have promised returns based upon bond contracts, the promised annual yields during any year differ substantially. As an example, during 1999 the average yields on alternative assets ranged from 4.64 percent on T-bills to 7.88 percent for Baa corporate bonds. Second, the changes in yields for a specific asset are shown by the three-month Treasury bill rate that went from 4.64 percent in 1999 to 5.82 percent in 2000. Third, an example of a change in the difference between yields over time (referred to as a spread) is shown by the Baa-Aaa spread.4 The yield spread in 1995 was only 24 basis points (7.83 - 7.59), but the spread in 1999 was 83 basis points (7.88 - 7.05). (A basis point is 0.01 percent.) Because differences in yields result from the riskiness of each investment, you must understand the risk factors that affect the required rates of return and include them in your assessment of investment opportunities. Because the required returns on all investments change over time, and because large differences separate individual investments, you need to be aware of the several components that determine the required rate of return, starting with the risk-free rate. The discussion in this series of posts considers the three components of the required rate of return and briefly discusses what affects these components
