Submitted By mich4u33

Words 696

Pages 3

Words 696

Pages 3

TUI University

FIN301-Principles of Finance

December 26, 2011

Abstract

In this paper I will calculate the present value of income from a gold mine.

Present Value and Capital Budgeting

Part I

A. Suppose your bank account will be worth $15,000.00 in one year. The interest rate (Discounted Rate) that the bank pays is 7%. is the present value of your bank account ? What would the present value of the account be if the discount rate is only 4%?

NPV at 7%

$15,000/1.07=$14,018.69

NPV at 4%

$15,000/1.07=$14,423.08

B. Suppose you have two bank accounts, one called Account A and another Account B. Account A will be worth $6,500.00 in one year. Account B will be worth $12,600.00 in two years. Both accounts earn 6% interest. What is the present value of each of these accounts?

Account A NPV

$6,500.00/1 year = $6,132.08

Account B NPV

$12,600/2 year =$11,213.96

C. Suppose you just inherited an gold mine. This gold mine is believed to have three year worth of gold deposits.

Here is how much income this gold mine is projected to bring you each year for the next three years.

Year 1: $49,000,000

Year 2: $61,000,000

Year 3: $85,000,000

Compute the present value of this stream of income at a discount rate of 7%. Remember, you are calculating the present value for a whole stream of income i.e. the total value of receiving all three payments (how much you would pay right now to receive these three payments in the future). Your answer should be one number – the present value for this gold mine at a 7% discount rate but you have to show how you got this number.

7% discount rate

$49,000,000/(1.07) + $61,000,000/(1.07)2 + $85,000,000/(1.07)3= $168,459,474.48

Now compute the present value of the stream income from the gold mine at a discount rate of 5% , and at discount rate…...

...Running head: Portfolio Project- Capital Budgeting Page 1 Capital Budgeting April Sutton July 12, 2013 FINANCIAL MANAGEMENT 3004 Instructor Nickey Turner Walden University Running head: Portfolio Project-Capital Budgeting Page 2 INTRODUCTION Capital Budgeting is defined as the process of planning and managing a firm’s long-term investments (Ross, Westerfield & Jordan. 2013). The question of what long term investment should be made is the first step of answering this question. The issues that arise with the asking of this question will be detailed in this paper. Capital Budgeting techniques include the Payback Rule, IRR, NPV, and the Profitability Index. PAYBACK RULE The payback method indicates that an investment is acceptable if its calculated payback is less than some prescribed number of years. The payback method does not consider the present value of cash flows. Under this method, an investment project is accepted or rejected on the basis of payback period. Payback period means the period of time that a project requires to recover the money invested in it (www.accountingformanagement.org).The payback period of a project is expressed in years and is computed using the following formula: Formula of payback period: According to this method, the project that promises a quick recovery of initial investment is considered desirable. If the payback period of a project computed by the above formula is shorter than or equal to the......

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...January 13, 2013 Nchacha Etta Capital Budgeting When evaluating capital budgeting projects, the internal rate of return (IRR) and the net present value (NPV) methods are two major approaches used. IRR and NPV are the most widely used in capital budgeting. One other approach is the profitability index (PI) is essentially a variation on the NPV method. A question might be if these always give the same solutions to the problems. The answer here is no. This paper will explore these different capital budgeting techniques. This paper will also compare and contrast each of the techniques with an emphasis on comparative strengths and weaknesses. The net present value (NPV) applies to the analysis of projects. Calculate the present value of each of a project’s cash flows and add them together, using the net present value technique. This gives the result of the net present value of the project, usually referred to as the NPV (Lasher, 2011). A project’s net present value is the new effect that the undertaking is expected to have on the value of the firm. A capital spending program which maximizes the NPV of projects undertaken will contribute to maximizing shareholder wealth. According to Lasher (2011), it is the direct link to shareholder wealth maximization that makes MPV the most theoretically correct capital budgeting technique. The internal rate of return, instead of comparing present value dollar amounts, focuses on rates of return. On e......

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...Capital Budgeting * Capital Budget * The amount of money set aside for the purchase of fixed assets (e.g., equipment, buildings, etc.) * Capital Budgeting * The process in which a business determines whether projects such as building a new plant or investing in a long-term venture are worth pursuing. Oftentimes, a prospective project's lifetime cash inflows and outflows are assessed in order to determine whether the returns generated meet a sufficient target benchmark. * Motivation * Replacement * Expansion * Modernization * Strategic * The Major Capital Budgeting Techniques * Payback Period * It doesn't use the time value of money principle, making it the weakest of the methods that we will discuss here. However, it is still used by a large number of companies * By definition, it is the length of time that it takes to recover your investment * Example: If a project costs $100,000 and is expected to return $20,000 annually, what’s the payback period? * Payback Period = Cost of Project / Annual Cash Inflows * $100,000/$20,000, or five years. * Net Present Value * The net present value of an investment is the present value of the cash inflows minus the present value of the cash outflows. * When Cash Flow is Even * Calculate the net present value of a project which requires an initial investment of $243,000 and it is......

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...Excellence in Financial Management Course 3: Capital Budgeting Analysis Prepared by: Matt H. Evans, CPA, CMA, CFM This course provides a concise overview of capital budgeting analysis. This course is recommended for 2 hours of Continuing Professional Education. In order to receive credit, you will need to pass a multiple choice exam which is administered over the internet at www.exinfm.com/training A companion toll free course can be accessed by dialing 1-877-689-4097, option 3, ID 752. Chapter 1 The Overall Process Capital Expenditures Whenever we make an expenditure that generates a cash flow benefit for more than one year, this is a capital expenditure. Examples include the purchase of new equipment, expansion of production facilities, buying another company, acquiring new technologies, launching a research & development program, etc., etc., etc. Capital expenditures often involve large cash outlays with major implications on the future values of the company. Additionally, once we commit to making a capital expenditure it is sometimes difficult to backout. Therefore, we need to carefully analyze and evaluate proposed capital expenditures. The Three Stages of Capital Budgeting Analysis Capital Budgeting Analysis is a process of evaluating how we invest in capital assets; i.e. assets that provide cash flow benefits for more than one year. We are trying to answer the following question: Will the future benefits of this project be large enough to justify...

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...The time value of money: The underlying principle is that a dollar worth today is worth more than a dollar in the future simply because, we can invest that dollar and earn a return on it. When financial managers make key operating decisions, it is certainly important for them to worry about the time value of money simply to understand the worth of a financial decision made by them. It is actually a key metric for the discounted cash-flows model which allows organizations to declare the value of an investment today, based on the expected return from the investment in the future. Importance: The fact of the matter is that capital budgeting is directly linked to time value of money, by that I mean, any investment that the firm intends to make has strategic objectives behind it. All of the investments, not necessarily bring in positive cash-flow in year 0 or year 1. It may be years before the project begins yielding a positive cash-flow. To understand the business perspective of whether or not an investment is worth upfront and whether the cash-flows composes the appropriate vision and direction of the organization. Time value of money is also directly linked to the discount rate, the discount rate is the rate used to convert the future money into present value that is to determine what the value of $1 at the given time in the future is worth today. There are multiple factors that can affect the discount rate some of them are; the interest rate at which a company can borrow money...

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...Capital Budgeting By Joan Shoueka Capital Budgeting is defined in accounting and finance as “the planning of long-term corporate financial projects relating to investments funded through and affecting the firm's capital structure (Wikipedia, 2014).” It allocates resources for major capital or investment expenditures. Creating and implementing a budget is crucial to any business or organization for many reasons. One reason is because “it creates a structured step by step process that enables a company to develop and formulate long-term strategic goals, seek out new investment projects, estimate and forecast future cash flows, facilitate the transfer of information & lastly, monitor and control expenditures (Investopedia, 2014).” “Preparing a capital budget is also necessary in order to increase profits and minimize costs. Most businesses and organizations typically plan a budget for a 12-month period, which allows management to take a look at a bigger picture. A capital budget differs from a short-term budget in that it takes a look at long-term investments, examining the purchase or upgrade of fixed assets such as buildings, machinery and equipment (Ehow.com, 2014).” There are also many reasons to make hefty investments. One important intention is that it helps to expand the level of operations for a business or company. A growing company often needs to acquire new fixed assets in order to produce work in a timely fashion. Then as the company expands......

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...Excellence in Financial Management Course 3: Capital Budgeting Analysis Prepared by: Matt H. Evans, CPA, CMA, CFM This course provides a concise overview of capital budgeting analysis. This course is recommended for 2 hours of Continuing Professional Education. In order to receive credit, you will need to pass a multiple choice exam which is administered over the internet at www.exinfm.com/training A companion toll free course can be accessed by dialing 1-877-689-4097, option 3, ID 752. Chapter 1 The Overall Process Capital Expenditures Whenever we make an expenditure that generates a cash flow benefit for more than one year, this is a capital expenditure. Examples include the purchase of new equipment, expansion of production facilities, buying another company, acquiring new technologies, launching a research & development program, etc., etc., etc. Capital expenditures often involve large cash outlays with major implications on the future values of the company. Additionally, once we commit to making a capital expenditure it is sometimes difficult to backout. Therefore, we need to carefully analyze and evaluate proposed capital expenditures. The Three Stages of Capital Budgeting Analysis Capital Budgeting Analysis is a process of evaluating how we invest in capital assets; i.e. assets that provide cash flow benefits for more than one year. We are trying to answer the following question: Will the future benefits of this project be large......

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...Capital Budgeting' Capital budgeting is the process in which a business determines and evaluates potential expenses or investments that are large in nature. These expenditures and investments include projects such as building a new plant or investing in a long-term venture. Often times, a prospective project's lifetime cash inflows and outflows are assessed in order to determine whether the potential returns generated meet a sufficient target benchmark, also known as "investment appraisal." BREAKING DOWN 'Capital Budgeting' Ideally, businesses should pursue all projects and opportunities that enhance shareholder value. However, because the amount of capital available at any given time for new projects is limited, management needs to use capital budgeting techniques to determine which projects will yield the most return over an applicable period of time. Various methods of capital budgeting can include throughput analysis, net present value (NPV), internal rate of return (IRR), discounted cash flow (DCF) and payback period. There are three popular methods for deciding which projects should receive investment funds over other projects. These methods are throughput analysis, DCF analysis and payback period analysis. Throughput Analysis Throughput is measured as the amount of material passing through a system. Throughput analysis is the most complicated form of capital budgeting analysis, but is also the most accurate in helping managers decide which projects to pursue....

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...Capital Budgeting Techniques Mona School of Business Financial Management Lecturer: Kathya Beckford By the end of this session you will understand: 1. What capital budgeting is How to calculate and interpret a project’s: 2. Payback Period Discounted Payback Period Net Present Value (NPV) Internal Rate of Return (IRR) Profitability Index (PI) 3. How to choose projects when capital is rationed What is capital budgeting? Capital budgeting is the process of planning expenditure on assets or projects that can have a long-term impact on an institution. Examples of capital projects Adopting a new enterprise-wide software system Launching a new advertising campaign Replacing factory equipment Expanding sales into a new market Building a road Why is capital budgeting important? Helps firm make smart decisions Capital projects large and expensive- not easy to change course Allows management team to give input and be on same page Capital budgeting techniques include: Payback Period Discounted Payback Period Net Present Value (NPV) Internal Rate of Return (IRR) Profitability Index (PI) Payback Period- The Concept What is it? The payback period for a project is the expected time it will take to recover the original investment. The decision rule: Accept project if its payback period is less than the maximum allowed. Payback Period- An Example A project requires a $100,000,000......

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...WHAT IS CAPITAL BUDGETING? Capital budgeting is a required managerial tool. One duty of a financial manager is to choose investments with satisfactory cash flows and rates of return. Therefore, a financial manager must be able to decide whether an investment is worth undertaking and be able to choose intelligently between two or more alternatives. To do this, a sound procedure to evaluate, compare, and select projects is needed. This procedure is called capital budgeting. I. CAPITAL IS A LIMITED RESOURCE In the form of either debt or equity, capital is a very limited resource. There is a limit to the volume of credit that the banking system can create in the economy. Commercial banks and other lending institutions have limited deposits from which they can lend money to individuals, corporations, and governments. In addition, the Federal Reserve System requires each bank to maintain part of its deposits as reserves. Having limited resources to lend, lending institutions are selective in extending loans to their customers. But even if a bank were to extend unlimited loans to a company, the management of that company would need to consider the impact that increasing loans would have on the overall cost of financing. In reality, any firm has limited borrowing resources that should be allocated among the best investment alternatives. One might argue that a company can issue an almost unlimited amount of common stock to raise capital. Increasing the......

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... Capital Budgeting When people hear the term capital budgeting, they usually focus on the budgeting part of the term rather than the capital portion. Actually, capital is the more important aspect in that it lets us know that we are evaluating a larger expenditure that will be capitalized -- in other words, depreciated over time. Remember, a capital expenditure can be many things -- a large copying machine, an automated assembly line, a building, or the ultimate in capital budgeting -- the acquisition of another entity. What is totally cool about capital budgeting is it allows you to analyze one or more projects so that you can intelligently and strategically make a decision as to which project you wish to acquire or piece of equipment you should procure. There are at least 6 capital budgeting tools that can be used in analyzing a capital expenditure (please note that the text mainly focuses on NPV and IRR) -- Net Present Value (NPV), Internal Rate of Return (IRR), Profitability Index (PI), Payback Period (PB), Discounted Payback Period (DPB), and Modified Internal Rate of Return (MIRR). Perhaps in a prior finance course, you might have learned how to calculate four of the above six tools -- NPV, IRR, PI, and PB. If not, then it will be new material for you! Now, crunching the numbers might seem by some to be the more crucial part -- and it is indeed very important. However, interpreting and analyzing the answers are just as important. Let's see if we can do this with...

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