financial maagement chap006financial management chap006.pptVIP

Slides by Matthew Will Topics Covered What To Discount IMC Project Project Interaction Equivalent Annual Cost Replacement Project Interaction Timing Fluctuating Load Factors What To Discount Only Cash Flow is Relevant What To Discount Do not confuse average with incremental payoffs Include all incidental effects Do not forget working capital requirements Forget sunk costs Include opportunity costs Beware of allocated overhead costs Inflation INFLATION RULE Inflation Example You own a lease that will cost you $8,000 next year, increasing at 3% a year (the forecasted inflation rate) for 3 additional years (4 years total). If discount rates are 10% what is the present value cost of the lease? Inflation Example - nominal figures Inflation Example - real figures IMC’s Guano Project Revised projections ($1000s) reflecting inflation IMC’s Guano Project NPV using nominal cash flows IMC’s Guano Project IMC’s Guano Project Details of cash flow forecast in year 3 ($1000s) IMC’s Guano Project Tax depreciation allowed under the modified accelerated cost recovery system (MACRS) (Figures in percent of depreciable investment) IMC’s Guano Project Tax Payments ($1000s) IMC’s Guano Project Revised cash flow analysis ($1000s) Equivalent Annual Cost Equivalent Annual Cost - The cost per period with the same present value as the cost of buying and operating a machine. Equivalent Annual Cost Equivalent Annual Cost - The cost per period with the same present value as the cost of buying and operating a machine. Equivalent Annual Cost Example Given the following costs of operating two machines and a 6% cost of capital, select the lower cost machine using equivalent annual cost method. Year Machine 1 2 3 4 PV@6% EAC A 15 5 5 5 28.37 10.61 B 10 6 6 21.00 11.45 Timing Even projects with positive NPV may be more valuable if deferred. The actual NPV is then the current value of some future value of the deferred project. Timing Example You may harvest a set of trees at anytime o