Net Present Value (NPV)
My favorite investment appraisal tool, why do I say so;
Well for one it’s very easy to calculate and, second of all it’s
realistic as it takes into account of the future value of money. There are
other methods of appraise evaluating investments to decide on which to choose
like;
(a) Accounting Rate of Return (ARR).considers
percentage profit to investment
(b) PayBack Period  more interested in
the time frame of recovering amount invested
(c) Discounted Cash Flow (DCF). 
considers time value of money
(d) Profitability Index (PI)  has a
benchmark which determines if projects are accepted or rejected
Accounting
Rate of Return

Average
Annual Profit

Average
investment

Average investment= Initial investment + residual Value/2
NPV= i/ (1+ %) n
Where1= constant
%= % cost of
capital
n= number of
years
Exercise
The following are the information
provided by GONJO Province Using the net present value method, advice the
Province on which of the projects ‘X’, ‘Y’, ‘Z’, is the most viable and should
be picked.
Cost of Initial
Investment

100,000

180,000

150,000

Year

X

Y

Z

1

40000

10000

50000

2

50000

30000

10000

3

60000

50000

90000

4

70000

70000

10000

5

80000

120000

40000

Assuming we have a 10% cost of capital
Cost of Initial
Investment


YEAR

X


1

1/(1+ .1) ^1

0.9090

40000

36360

2

1/(1+ .1) ^2

0.8262

50000

41310

3

1/(1+ .1) ^3

0.7510

60000

45060

4

1/(1+ .1) ^
4

0.6827

70000

47789

5

1/(1+ .1) ^
5

0.6206

80000

49648

220167


Less Cost Investment

(100,000)


120,167

Cost of Initial
Investment


YEAR

Y


1

1/(1+ .1) ^1

0.9090

10000

9090

2

1/(1+ .1) ^2

0.8262

30000

24786

3

1/(1+ .1) ^3

0.7510

50000

37550

4

1/(1+ .1) ^
4

0.6827

70000

47789

5

1/(1+ .1) ^
5

0.6206

120000

74472

193687


Less Cost Investment

(180,000)


13687

Cost of Initial
Investment


YEAR

Z


1

1/(1+ .1) ^1

0.9090

50000

45450

2

1/(1+ .1) ^2

0.8262

10000

8262

3

1/(1+ .1) ^3

0.7510

90000

67590

4

1/(1+ .1) ^
4

0.6827

10000

6827

5

1/(1+ .1) ^
5

0.6206

40000

24824

152953


Less Cost Investment

(150,000)


2953

Decision: in the next five years, project
X will yield a Cashflow of N220,167 taking out the initial amount invested the
project will still be left with a Present value of N120,167 which is the most
viable amongst the three. So project x is our guy.
Hope I made sense to you lol!
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