Replacement Chain Method

AAA

DEFINITION of 'Replacement Chain Method'

A capital budgeting decision model that is used to compare two or more mutually exclusive capital proposals with unequal lives. The Replacement Chain Method is a decision model that takes into consideration the different life spans of alternative proposals, allowing a more accurate comparison of the proposals. In Replacement Chain Analysis, the Net Present Value (NPV) is determined for each proposal, and one or more iterations (the "links" in the replacement chain) can be completed to create comparable time frames for the proposals. By comparing the proposals over like-periods of time, accept-reject information for the various proposals becomes more reliable.

INVESTOPEDIA EXPLAINS 'Replacement Chain Method'

The methodology involves determining the number of years of cash flow (the project lives) for each of the projects and creating a "replacement chain," or iterations, to fill in the blanks in the shorter-lived project. For example, if project A has a five-year life span and project B has a 10-year life span, project A's data can be projected to the next five-year period to match project B's 10-year life span, taking into consideration any net investments and net cash flows for each iteration. The NPV of each project can then be calculated to provide reliable accept-reject information. The NPV is the present value of the net cash flow stream resulting from a project, discounted at the firm's cost of capital, less the project's net investment.

RELATED TERMS
  1. Cost Of Capital

    The required return necessary to make a capital budgeting project, ...
  2. Incremental Cost Of Capital

    A term used in capital budgeting, the incremental cost of capital ...
  3. Cost Of Equity

    In financial theory, the return that stockholders require for ...
  4. Capital Budgeting

    The process in which a business determines whether projects such ...
  5. Weighted Average Cost Of Capital ...

    A calculation of a firm's cost of capital in which each category ...
  6. Deferred Tax Asset

    A deferred tax asset is an asset on a company's balance sheet ...
Related Articles
  1. What's the difference between net present ...
    Budgeting

    What's the difference between net present ...

  2. Which is a better measure for capital ...
    Budgeting

    Which is a better measure for capital ...

  3. Material Adverse Effect A Warning Sign ...
    Markets

    Material Adverse Effect A Warning Sign ...

  4. Footnotes: Early Warning Signs For Investors
    Retirement

    Footnotes: Early Warning Signs For Investors

comments powered by Disqus
Hot Definitions
  1. Accounts Payable - AP

    An accounting entry that represents an entity's obligation to pay off a short-term debt to its creditors. The accounts payable ...
  2. Ratio Analysis

    Quantitative analysis of information contained in a company’s financial statements. Ratio analysis is based on line items ...
  3. Days Payable Outstanding - DPO

    A company's average payable period. Calculated as: ending accounts payable / (cost of sales/number of days).
  4. Net Sales

    The amount of sales generated by a company after the deduction of returns, allowances for damaged or missing goods and any ...
  5. Over The Counter

    A security traded in some context other than on a formal exchange such as the NYSE, TSX, AMEX, etc. The phrase "over-the-counter" ...
  6. Earnings Before Interest After Taxes - EBIAT

    A financial measure that is an indicator of a company's operating performance. EBIAT, which is equivalent to after-tax EBIT ...
Trading Center