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What Is Present Value & Future Value?

This document discusses various capital budgeting techniques used to evaluate investment decisions. It explains key terms like net present value (NPV), internal rate of return (IRR), profitability index (PI), payback period, and accounting rate of return. Different acceptance rules are provided for each technique to determine whether an investment should be accepted or rejected based on whether the calculated value is above, below, or equal to pre-determined thresholds. Links to examples in a capital budgeting spreadsheet are also included.

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Nihal Lamge
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50 views13 pages

What Is Present Value & Future Value?

This document discusses various capital budgeting techniques used to evaluate investment decisions. It explains key terms like net present value (NPV), internal rate of return (IRR), profitability index (PI), payback period, and accounting rate of return. Different acceptance rules are provided for each technique to determine whether an investment should be accepted or rejected based on whether the calculated value is above, below, or equal to pre-determined thresholds. Links to examples in a capital budgeting spreadsheet are also included.

Uploaded by

Nihal Lamge
Copyright
© Attribution Non-Commercial (BY-NC)
We take content rights seriously. If you suspect this is your content, claim it here.
Available Formats
Download as PPTX, PDF, TXT or read online on Scribd
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What is present value & future value?

WHAT IS CAPITAL BUDGETING?

Is it worth it to put money or capital into this project?

Is it worth it to use money to buy this machine?

Is it worth it to put money in this business?

CAPITAL BUDGETING TECHNIQUES / INVESTMENT DECISION RULE

Discounted cash flow (DCF) Net present value.(NPV) Internal rate of return.(IRR) Profitability index.(PI) Non-discounted cash flow. Payback Discounted payback. Accounting rate of return

Net present value(NPV).


How much is an investment worth today.

LINK - CAPITAL BUDGETING.xlsx

ACCEPTANCE RULE. Accept the project when NPV is positive. NPV>0

Reject the project when NPV is negative.


May accept the project when NPV is zero.

NPV<0
NPV=0

Internal rate of return(IRR).


The Internal rate of return is the rate that equates the investment outlay with the present value of cash inflow received, after one period.

LINK - CAPITAL BUDGETING.xlsx

ACCEPTANCE RULE.
Accept the project when r>k

Reject the project when


May accept the project when

r<k
r=k

Profitability Index(PI).
Profitability index is the ratio of the present value of cash inflows, at the required rate of return, to the initial cash outflow of the investment. PI = PV of cash inflows / Initial cash outlay. Example: Cash outlay = Rs. 100,000. NPV = Rs. 12,350 r = 10% PI = 112,350/1,00,000 = 1.1235. ACCEPTANCE RULE.

Accept the project when PI is greater than one. Reject the project when PI is less than one. May accept the project when PI is equal to one.

PI>1 PI<1 PI=1

PAYBACK. Payback is the number of years required to recover the original cash outlay invested in a project.

PAYBACK = Initial Investment / Annual cash inflow.


Example: (constant cash flows) Project required an outlay = Rs. 50,000/Cash in flow = Rs. 12,500/Total number of years = 7 years. PB = Rs. 50,000 / Rs12,500 = 4 years. Example: (uneven cash flows)
LINK - CAPITAL BUDGETING.xlsx

DISCOUNTED PAYBACK. The discounted payback period is the number of periods taken in recovering the investment outlay on the present value basis.
LINK - CAPITAL BUDGETING.xlsx

Accounting rate of return.(ARR) The accounting rate of return (ARR), also known as the return on investment (ROI), uses accounting information, as revealed by financial statement, to measure the profitability of an investment. The accounting rate of return is the ratio of the average after tax profit divided by the average investment.

LINK - CAPITAL BUDGETING.xlsx

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