What is Investment Decision? 

The term investment refers to allocating money with the intention of getting positive returns in the future period. For example, an asset would be acquired with the motive of generating income by selling the asset when there is a price increase.  

Investment decision means selection of long-term or short-term assets in which the funds would be invested either by individuals or by the organization. From the perspective of financial management, investment decisions would also mean capital budgeting decisions.  

The investment decision is a vital decision in any firm as it helps in determining the profitability of the firm. 

For example: 

Following are the types of decisions relating to investment: 

1. Long-term decision – In this investment decision making, the funds are invested in the long-term assets also known as capital budgeting. Capital budgeting is a process of evaluating the various investment options in order to choose the best option. 

2. Short-term decision – In this decision-making, the funds are invested in short-term assets also known as working capital management. The objective of working capital management is to ensure a smooth operating cycle. 

Nature of Decision 

• Requirement of huge funds – The financing decisions taken by the organization would involve a lot of cash flows to be allocated by the firm in different types of assets with the motive of earning profits. This decision should be taken with due care and attention as every firm will have limited cash flows on hand whereas the demand for funds would be more. 
• High degree of risk – As the investment decisions are made with the hope of getting good returns. But the estimated returns are no accurate figures. It means the large number of funds that the firm invests is totally uncertain. That is why investment decision involves lots of risks. 
• Impact on cost structure – Investment decision also affects the cost structure of the firm. While making investment decisions firms would commit themselves to various fixed costs like rent charges and insurance. Hence if the investment does not give the expected return, the overall cost increases and this would impact the cash flows of the company to a large extent. 
• Irreversibility – Irreversibility means which cannot be reversed back. It is quite difficult to reverse back the decisions relating to the investment. Any changes can impact a lot on the firm. 
• Complex process – Investment decision is complex in nature especially if a company is making decisions relating to capital budgeting. The company will have to employ a lot of capital budgeting techniques in choosing the best investment. The investment manager who is responsible for making the decision will have to find a suitable investment opportunity for the firm amidst lots of challenges like changing government policies and technological changes. Hence the decision process is always complex. 

Types of Investment Decision 

The various types of investment decision are as follows –  

• Inventory investment - In inventory investment, the firm takes the decision regarding the proper allocation of funds for raw material. For the smooth functioning of the organization, it is necessary to maintain sufficient stock of materials, and the expenses relating to stock maintenance are considered as an investment under capital budgeting. 
• Replacement investment – In today's world, technology changes very rapidly. So in replacement decision, the firm takes a decision regarding the replacement of worn out or obsolete assets with the new ones. 
•  Strategic investment expenditure – Strategic investment expenditure decisions are taken by the business with a view to increasing their market share. This expenditure provides long-term benefits and no immediate returns. 
• Modernization investment Expenditure – Modernization investment expenditure is done by the firm to upgrade the technology used in the production process so that the overall efficiency of the product will increase which can help in reducing the debts.  
• Expansion investment – In expansion investment, the firm takes the decision regarding the expansion of the size of the firm or decisions involving the increase of production capacity of the firm because of the increasing demand.   
• Expansion investment on new business – These decisions are taken by the organization for starting a new venture or starting a new line of production. Diversification of the existing business or starting a new business would require huge cash flows. 

Importance of Investment Decision  

Investment decision plays an important role in every organization. Following are its importance: 

• Helps in enhancing the firm growth –The Investment decision which is taken by the firm impacts a lot both on the earning potential and also on the firm's growth. Good decisions can increase the cash flows and on the other hand, wrong decisions can result in huge losses. 
• Helps in determining risk – Investments are made by the firm in order to earn the expected returns in the future period. As it is not easy to determine the future, organizations can use techniques like capital budgeting to make quality decisions.  

Context and Applications   

This topic is significant in the professional exams for both undergraduate and graduate courses, especially for 

• B.com 
• B.B.A  
• M.B.A