Stud Investment
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2013-09-19 1 Investment appraisal Industrial management Håkan Kullvén 1 Chapter 10 The general principle; bank account deposit. • We invest to get economic value in the future (>1 year) • Gives cash outflow and cash inflow • €1 today > €1 one year later 2 Interest on interest, end value: Capital x (1+i) y Year 2013 Year 2014 Year 2015 Year 2016 Year2017 We deposit €1 000 on a bank account with 10% (!) interest on January 1 st 2013 1 000 1 100 1 210 1 331 1 464 1 610 This means, that €1 000 today is worth the same as e.g. €1 610 after five years! Net present value (NPV) For investments, it is more practical to revers the end value = Net present value (NPV) 3 Net present value: Capital x Year 2013 Year 2014 Year 2015 Year 2016 Year 2017 What is the net present value of the amount €1 610 that we pay at the end of year 2017, if the interest is 10%? 1 000 1 100 1 210 1 331 1 464 1 610 This means, that €1 610 after five years are as much worth as e.g. €1 000 today! 1 (1+i) y
Transcript of Stud Investment
2013-09-19
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Investment appraisal
Industrial managementHåkan Kullvén
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Chapter 10
The general principle; bank account deposit.
• We invest to get economic value in the future (>1 year)• Gives cash outflow and cash inflow• €1 today > €1 one year later
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Interest on interest, end value: Capital x (1+i)y
Year 2013 Year 2014 Year 2015 Year 2016 Year2017
We deposit €1 000 on a bank account with 10% (!) interest on January 1st 2013
1 000 1 100 1 210 1 331 1 464 1 610
This means, that €1 000 today is worth the same as e.g. €1 610 after five years!
Net present value (NPV)For investments, it is more practical to revers the end value = Net present value (NPV)
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Net present value: Capital x
Year 2013 Year 2014 Year 2015 Year 2016 Year 2017
What is the net present value of the amount €1 610 that we pay at the end of year 2017, if the interest is 10%?
1 000 1 100 1 210 1 331 1 464 1 610
This means, that €1 610 after five years are as much worth as e.g. €1 000 today!
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(1+i)y
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Sum of NPVSimplifies when the same cash flow occur year after year.
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Sum of NPV: Capital x
Year 2013 Year 2014 Year 2015 Year 2016 Year 2017
3 791 1 000 1 000 1 000 1 000 1 000
This means, that €1 000 per year during five years are worth the same as €3 791 today!
1-(1+i)-y
i
What is the sum of net present value if we pay €1 000 at the end of year 2013, 2014, 2015, 2016, and 2017 (5 x €1 000), if the interest is 10%?
AnnuityIt is also possible to calculate a yearly amount, an annuity
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What is the yearly value, the annuity, for a net present value of €3 791 during five years, if the interest is 10%?
Annuity: Capital x
Year 2013 Year 2014 Year 2015 Year 2016 Year 2017
3 791
1 000 1 000 1 000 1 000 1 000
This means, that €3 791 today is worth as much as €1 000 each year during five years!
i
1-(1+i)-y
No calculations in the book!
Concepts in the calculation
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y
I
CI
CO
a aa a a a a a a
D
i%
I: Initial outlay, €, year 0 CI: Cash inflow, €
CO: Cash outflow, €a: annual net cash inflow, CI-CO
D: Disposal value, €
i: Interest in %
y: Economic life, years
i
Project riskReal interestInflation
Risk premium
No abbreviations in book!
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Methods for investment appraisal
Valid methods [highest value best!]Net
present value
AnnuityYearly cost
Internal rate of return, IRR
Test, or I/a
Payback period (PP)
∑a = I, or I/aShortest best!
Problem; short sighted, not interest (in usual model)
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ARR, Accounting rate of return
End value 20-1
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Calculate the end value ofA. € 500 after 50 years and with an interest of 15%B. € 250 000 after 8 years and with an interest of 12%
Is the investment below profitable according to a calculation of the net present value? The interest is 20%
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I = € 1 000 0005 yearsa = € 300 000 per yearD = € 100 000
Net present value 20-4
Fidèle Karibushi
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Pay-back period 20-5
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Calculate the pay-back time for the machine below. As an effect of the investment, the cash outflow in the factory will decrease with € 210 000 each year.
Initial outlay € 200 000
Costs for operation € 30 000 per year
Wages € 90 000 per year
Energy cost € 10 000 per year
Economic life 8 years
Is the investment below profitable according to its internal rate of return? The interest is 20%
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Internal rate of return 20-7
Initial outlay € 1 000 000
Economic life 10 years
Net cashflow per year € 200 000
Disposal value € 0
Comparison between methods 20-11
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Calculate the profitability for the two options below, machine A and machine B (in €)
Year Net cashflow A Net cashflow B
0 - 60 000 - 10 000
1 25 000 5 000
2 25 000 5 000
3 25 000 5 000
4 25 000 5 000
The interest is 15% for both alternatives.
A. Which alternative do pay-back suggest you to choose? B. Which alternative do net present value suggest you to choose? C. Which alternative do the internal rate of return suggest you to choose?
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All the methods 20-16
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Initial outlay € 1 500 000
Yearly net cash flow € 300 000
Disposal value € 50 000
Economic life 8 years
Interest 7%
Below, you can find some information about a possible investment. Calculate the profitability of the investment with the help of:
A. Net present valueB. Internal rate of returnC. AnnuityD. Pay-back without interest
Should the company buy or lease the machine?
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A company is choosing between buying a machine for € 500 000, or to lease it. The economic life of the machine is 7 years, and it can thereafter be sold for € 20 000.
The lease agreement will be for five years, and the fee per month will be 2,5% of the price. After the lease period, the company is entitled to buy the machine for € 40 000.
The interest is 18%
Buy or lease? 20-22
Investment classification
In the statement of financial positionProperty, plant & equipment
BuildingsMachinery
FinancialSharesBonds
Other securities
IntangibleTrademarks
GoodwillPatents
The purposeReplacement
ExpansionRationalization
Environment (internal & external)
More years = increased uncertainty
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