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Net Present Value (NPV) - A Financial Tool for Investment Comparison Net Present Value combined with Internal Rate of Return are useful tools when comparing investments with different projected cash flows. Take this case for example: Acura, a car manufacturer wants to open a new manufacturing plant. It is considering 2 locations:
If Acura requires a minimum of 10% required return, which investment would you choose? In order to perform this calculation, we will use the Business Analyst BAII Plus Financial Calculator. Notes: CFO = Initial Investment and is always entered as a negative (since the company is paying out the money). E.g an initial investment of $-10,000 means the company paid out that amount. CO1 = Cash flow (in) for Year 1 1) Shanghai In your calculator, type in 2nd -> CF CFO = -15,000,000 CPT -> NPV I = 10% (this is the Acura's required rate of return) NPV -> CPT = -$9,802,501 IRR -> CPT = 2.09% 2) Mumbai In your calculator, type in 2nd -> CF CFO = -18,000,000 CPT -> NPV I = 10% (this is the Acura's required rate of return) NPV -> CPT = -$5,233,631 IRR -> CPT = 7.01% Here's a snapshot of the results we found:
If you look at the NPV of both cities, they are negative. What are the rules of Net Present Value? The rules of NPV? - If an investment has a Positive NPV,
then go ahead and do it! If you look at the IRR of both cities, they are below the 10% required return by Acura. Shanghai's IRR of 2.09% and Mumbai's IRR of 7.01% are below the required 10% return. Solution: Therefore, we have to reject both the investment projects.
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