ACCT 2020 1st Edition Lecture 20 Outline of Last Lecture I Capital Budgeting II Time Value of Money III Net Present Value IV Internal Rate of Return V Comparing Approaches Outline of Current Lecture I Chapter 8 Continued II Ranking Methods III 4th Test Information Current Lecture I Chapter 8 Continued The present Value of a dollar today is one dollar the present value of a dollar given in the future is less than one dollar Example o Consider a drafting a machine that would cost 100 000 last 4 years provie annual cash savings annuity of 10 000 and considerable intangible benefits each year quality of work happier employees due to less work How large in cash terms would those intangible benefits need to be if the discount rate is 14 Years Cash Flows Factor PV These notes represent a detailed interpretation of the professor s lecture GradeBuddy is best Used as a supplement to your own notes not as a substitute Invest in this Machine Now 100 000 1 100 000 Ann Net Cash Inflow 1 4 10 000 2 914 29 140 Negative Net Present value not meeting Min Requ Rate of Return 70 860 70 860 24 317 must be the cash value of intangibles 2 914 o Suppose all the cash flows related to an investment in a supertnker have been estimated except for its salvage value in 20 years Using a discount rate of 12 manangemtn has determined that the NPV of all the cash flows except the salvage value is a negative 1 04 million How large would the salvage value need to be for the investment to be attractive Net present Value to be offset Present value factor II 1 040 000 10 000 000 0 104 Ranking Methods If we have 5 different options we rank by most profitable When sing the internal rate of return method to rank competing investment projects o THE HIGHER THE INTERNAL RATE OF RETURN THE MORE DESIRABLE THE PROJECT Net present value method o Cannot compare if the investments are different size To do this we convert both to a comparable value using the project profitability index Net present Value Investment Required Project profitability index Payback Method o Determines the pay back period of the investment The period os the length of time that is takes for a project to recover its initial costs out of the cash receipts that it generates How quickly will I get the money back o Payback Period Investment Required Annual Net Cash Inflow o 140 000 4 years to pay back 35 000 o This method can be used as a screening tool Simple Rate of Return Method o Does not focus on cash Flows rather it focuses on account net operating income Initial investment should be reduced by any salvage value at the end o Simple rate of Return Annual Incremental Net Operating Income Initial investment o We now need to follow up with a Postaudit by comparing with the results that were actually realized to make sure the III 4th Test Information Standard Rate o know the standard price for direct materials direct labor ALL THAT IT INCLUDES o ideal and practical standards How to compute spending variance spending budget vs actual results o Who is responsible for variances Be able to compute margin and turnover know that this is the formula for ROI o Calculate change to ROI with proposed change in operations o Know the criticisms Residual income o Why instead of ROI Delivery cycle time throughput time manufacturing cycle efficiency 4 different types of measures for performance o learngng and growth o internal business processes o customers o product offerings capital budgeting