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Net Present Value For new project managers

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Net present value can be tricky to learn, but its really very simple.

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In this presentation I try to deliver an explanation of what it is

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And how to use it.

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Your feedback to this slide pack would be appreciated

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Lets get on with it…

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What is Net Present Value?

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Net Present Value

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Net present value (NPV) is a standard method for the financial appraisal of long-term projects.

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Net Present Value Present value of net cash flows

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What is it? Net Present Value Cash flow is discounted back to its present value (PV).

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20092008201020112012 In todays terms Revenues – Costs = ?

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Simple, right?

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What is it? But what is it?

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1.Each cash inflow/outflow is discounted back to its present value (PV). 2.Then they are summed.

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20092008201020112012 In todays terms Revenues – Costs = ?

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1.Each cash inflow/outflow is discounted back to its present value (PV).

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2.Then they are summed.

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1.Each cash inflow/outflow is discounted back to its present value (PV). 2.Then they are summed.

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1.Each cash inflow/outflow is discounted back to its present value (PV). 2.Then they are summed.

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1.Each cash inflow/outflow is discounted back to its present value (PV). 2.Then they are summed.

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1.Each cash inflow/outflow is discounted back to its present value (PV). 2.Then they are summed.

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20092008201020112012 In todays terms Revenues – Costs = ?

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Got it yet?

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1.Each cash inflow/outflow is discounted back to its present value (PV). Year 1s value in todays terms, Year 2s value in todays terms, Year 3s value in todays terms, Year 4s value in todays terms, etc

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2. Then they are summed. Year 1 + Year 2 + Year 3 + Year 4 + Etc ------------ = Sum

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But what is the formula all about?

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t - the time of the cash flow N - the total time of the project r - the discount rate (the rate of return that could be earned on an investment in the financial markets with similar risk.) Ct - the net cash flow (the amount of cash) at time t (for educational purposes, C0 is commonly placed to the left of the sum to emphasize its role as the initial investment.)

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What is it? t the time of the cash flow

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What is it? N the total time of the project

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What is it? r the discount rate (the rate of return that could be earned on an investment in the financial markets with similar risk.)

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What is it? Ct the net cash flow (the amount of cash) at time t (for educational purposes, C0 is commonly placed to the left of the sum to emphasize its role as the initial investment.)

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The value of money over time

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The discount rate 10% Y1Y2Y3Y4 91%83%75%68%

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The discount rate 10% Y1Y2Y3Y4 91%83%75%68% Why not… Y1Y2Y3Y4 91%83%75%68%

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The discount rate Because your 10% discount rate is worked out backwards. Last year was 10% greater than this year… Why not… Y1Y2Y3Y4 91%83%75%68%

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The discount rate 10% Y1Y2Y3Y4 91%83%75%68% So it looks like this

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Excel can help

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NPV in excel Help menu NPV

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But it aint perfect The NPV investment begins one period before the date of the value1 cash flow and ends with the last cash flow in the list. The NPV calculation is based on future cash flows. If your first cash flow occurs at the beginning of the first period, the first value must be added to the NPV result, not included in the values arguments. For more information, see the examples below

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The calculations in excel are … The NPV investment begins one period before the date of the value1 cash flow and ends with the last cash flow in the list. The NPV calculation is based on future cash flows. If your first cash flow occurs at the beginning of the first period, the first value must be added to the NPV result, not included in the values arguments. For more information, see the examples below different

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NPV in excel The NPV investment begins one period before the date of the value1 cash flow and ends with the last cash flow in the list. The NPV calculation is based on future cash flows. If your first cash flow occurs at the beginning of the first period, the first value must be added to the NPV result, not included in the values arguments. For more information, see the examples below

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NPV in excel

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NPV in worksheets

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When is it used? 1.Assessing the value of a project NPV is typically used for 2 reasons 2. Choosing which projects get priority

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When is NPV used?

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1.Assessing the value of a project NPV is typically used for 2 reasons 2. Choosing which projects get priority

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1.Assessing the value of a project NPV is typically used for 2 reasons 2. Choosing which projects get priority

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1.Assessing the value of a project NPV is typically used for 2 reasons 2. Choosing which projects get priority

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When do you use it? Project 1Project 2 Compare & Contrast Which one is best? Costs & Benefits Is it worth our investment?

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http://www.flickr.com/photos/makz/56920649/http://www.flickr.com/photos/f2g2/75152105/ Which is the better investment?

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http://www.flickr.com/photos/orangebrompton/1858900270/ Which was the better investment?

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Questions

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What is the discount rate? What is IRR?

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Internal Rate of Return

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What is IRR? The amount you need to earn to make it all worthwhile

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What is IRR? It is based on things like opportunity cost, the cost of money and risk

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< 0 < NPV < 0 NPV = 0 NPV > 0 The investments return is less than the discounted cash threshold The investments return meets the discounted cash threshold The investments return exceeds the discounted cash threshold < 0= 0> 0

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What is NPV good for?

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When does a project manager use NPV?

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What project documents (or artefacts) would you find NPV calculations in?

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How does NPV help in decision making?

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When is NPV not so useful?

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What impact does (would) NPV have on your project?

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Answers 1.What is NPV good for? 2.When does a project manager use NPV? 3.What project documents (or artefacts) would you find NPV calculations in? 4.How does NPV help in decision making? 5.When is NPV not so useful? 6.What impact does (would) NPV have on your project? 1.Understanding the future value of money in todays terms 2.In presenting the cost-benefit analysis, or justification for a project 3.Business cases, project plans, and project portfolio reports 4.It helps compare the value of different projects against investment targets 5.If a project and its benefits are only going to run for a short period (e.g. less than a year) or if a projects benefits are non financial 6.Reflect on your projects costs and forecast benefits

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Another example Estimated costs; $1,750,000 in year 1 and $400,000 each year in years 2, 3 and 4. Estimated benefits; $0 in year 1, and $950,000 each year in years 2, 3, and 4. Use a 10 percent discount rate.

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Another example Estimated costs; $2,500,000 in year 1 and $250,000 each year in years 2, 3 and 4. Estimated benefits; $0 in year 1, and $750,000 each year in years 2, 3, and 4. Use a 10 percent discount rate.

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Erlet Shaqe www.dualibra.com

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