Capital Investment

This module can be used for finding the net present value of a cash flow or for finding the internal rate of return of a cash flow. The data for this example consist of a stream of inflows and a stream of outflows. In addition, for finding the net present value an interest rate must be given.

Net Present Value

Consider the following example. A company is going to purchase new equipment that costs $100,000. Because of the use of the new equipment the company will experience savings over the next 6 years of $22,000; $25,000; $22,000; $21,000, $19,000 and $18,000. At the end of six years the company anticipates being able to salvage the machine for $25,000. The company would like to know the net present value using an interest rate of 10%. The data screen appears below.

The screen has two columns in it for data. One column is labeled inflow and the other column is labeled outflow. We had indicated at the time of problem creation that this was a six period problem and the data table includes the six periods plus the current period (0). The purchase cost of $100,000 is an outflow that occurs at the beginning of the problem so this is placed in the outflow for period 0. The six savings in the list above are inflows and they are placed in the inflow column for periods 1 through 6. The salvage value could be handled two ways and we have chosen the way that we think gives a better display. We could have added the salvage value of $25,000 to the inflow in period 6. Instead, we chose to represent it as a negative outflow. This keeps the meaning of the numbers clearer. The last item to be entered is the interest rate in the text box above the data. The results appear below.

A column has been created that gives the present value factors for single payments. To the right of this the inflows and outflows are multiplied by these present value factors and the far right column contains the present values for the net inflow (inflow-outflow) on a period by period basis. The bottom row gives the totals for each column and the solution to our problem is a net present value of $7603.246.

Internal rate of return

The computation of the internal rate of return is very simple. The data is set up the same way but the method box is changed from net present value to internal rate of return. The results appear below where you can see that the inernal rate of return for the same data is 12.38% and, of course, the net present value (bottom right) when using this rate is $0.