AFM102March302011

AFM102March302011 - Introduction to Management Accounting...

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Click to edit Master subtitle style 5/11/11 Introduction to Management Accounting March 30, 2011 Capital Budgeting – Net Present Value 11
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5/11/11 Key Concepts in Today’s Class Capital budgeting The net present value concept 22
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5/11/11 Net Present Value The net present value ( NPV ) is the sum of the present values of a project’s cash flows The steps used to compute an investment’s net present value are as follows: Step 1: Choose the appropriate period length to evaluate the investment proposal 33
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5/11/11 Net Present Value Step 2: Identify the organization’s cost of capital, and convert it to an appropriate rate of return for the period length chosen in step 1 Step 3: Identify the incremental cash flow in each period of the project’s life Step 4: Compute the present value of each period’s cash flow using the organization’s cost of capital for the discount rate Step 5: Sum the present values of all the 44
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5/11/11 Net Present Value To determine the NPV of Shirley’s investment: Step 1: The period length is one year Step 2: Shirley’s cost of capital is 10% per year Step 3: The incremental cash flows are: $70,000 outflow immediately $20,000 inflow at the end of each year for five years 55
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5/11/11 Net Present Value Step 4: The present value of the cash flows when the organization’s cost of capital is 10% are: For a five-year annuity of $20,000, PV = $75,816 For the $10,000 salvage in five years, PV = $6,209 Step 5: To sum the present values of all the periodic cash flows and determine NPV The PV of the cash inflows is $82,025 66
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5/11/11 77
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5/11/11 88 11-66 (a) Ronnie’s Welding Year Invest- ment Depre- ciation Increase Tax Income Tax Net PV Factor PV 0 $50,000 ($50,000) 1.0000 ($50,000) 1 0 $9,600$14,000 $4,400 $1,760 12,240
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This note was uploaded on 05/11/2011 for the course AFM 102 taught by Professor R.ducharme during the Spring '09 term at Waterloo.

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AFM102March302011 - Introduction to Management Accounting...

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