Explain briefly the factors affecting the investment decision.

Following factors affect the Long-Term and Short-term Investment decisions:

(i) Long-Term Investment Decisions (Capital Budgeting Decision): Following factors affect these decisions:

(a) Cash Flows of the Project: As we know investment decision (capital budgeting decision) is related with investment in long-term assets. These assets involve both cash outflows and cash inflows over a series of years. The amount needed for investment is known as cash outflow, on the other hand, returns from the same investment is known as cash inflows. Both of these need to be analysed carefully before finalising the investment.

(b) The Rate of Return: A project may not be profitable as compared to other. The criteria to decide the profitability of various projects is their respective rate of returns. The rate of return is calculated on the basis of expected return of the project and risk attached with it. If two projects are of the same risk class, the project having higher rate of return will be accepted.

(c) Investment Criteria Involved: There may be many criteria of the investor while investing in the long-term assets. These are: funds involve, rate of interest, rate of return, cash flow, etc. All these factors influence the decision to go for a particular investment or not. For the same purpose, capital budgeting techniques are applied and accordingly decisions are taken.

(ii) Short-Term Investment Decisions: Following factors affect the short-term investment decisions:

This decision is related to working capital management. Keeping of adequate amount of working capital at all times in the business is called management of working capital. Adequate amount means that amount of working capital should neither be more nor less than required. Both these situations are harmful. If the amount of working capital is more than required, it will no doubt increase liquidity but decrease profitability. For instance, if large amount of cash is kept as working capital then this excessive cash will remain idle and cause the profitability to fall. On the contrary, if the amount of cash and other current assets are very little, then lot of difficulties will have to be faced in meeting daily expenses and making payment to the creditors. Thus, the objective of management of working capital is to determine optimum amount of both current assets and current liabilities so that profitability of the business remains intact and there is no fall in liquidity. In short, liquidity and profitability are the main factors which affect the short-term investment decision.