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1.) Static Investment Calculation

The document discusses various financial methods for evaluating investment alternatives, including: 1) Static methods that do not consider interest rates such as cost comparison, profit comparison, and payback period. 2) Dynamic methods that do consider interest rates such as present value, future value, net present value (NPV), and annuity. NPV indicates whether an investment generates profit by comparing the present values of cash inflows and outflows. Annuity calculates average annual profit by comparing discounted average annual cash flows.

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Kazi Milon
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112 views6 pages

1.) Static Investment Calculation

The document discusses various financial methods for evaluating investment alternatives, including: 1) Static methods that do not consider interest rates such as cost comparison, profit comparison, and payback period. 2) Dynamic methods that do consider interest rates such as present value, future value, net present value (NPV), and annuity. NPV indicates whether an investment generates profit by comparing the present values of cash inflows and outflows. Annuity calculates average annual profit by comparing discounted average annual cash flows.

Uploaded by

Kazi Milon
Copyright
© © All Rights Reserved
We take content rights seriously. If you suspect this is your content, claim it here.
Available Formats
Download as DOCX, PDF, TXT or read online on Scribd
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A) Present value and future value concepts and their application to

financial accounting and reporting

1.) Static investment calculation

1.1. Cost calculation and cost comparison calculation


- Comparison of the costs of different alternatives
- premise of the same performance
- Interest effects are not taken into account
- Costs can not be the sole decision criterion for an investment object
- easy to use
- Disregarding sales and the level of capital expenditure

1.2.) total cost

total cost

total cost TC = CF + Cᵥ
CF = total fixed costs

Cᵥ = gesamte,variable costs

Calculating Costs

AC − R AC + R
Calculating Costs CC = + *i
𝑈𝐿 2

with CC = cost-accounting costs


AC = Acquisition Cost / purchase cost
R = Residual Value
UL = Useful life
I = Interest rate

𝐀𝐂 − 𝐑
Calculating depreciation CD =
𝑼𝑳
𝐀𝐂 + 𝐑
Calculating interest rates for the average tied capital CI = *i
𝟐

additional decision criterion  critical production quantity

TC1 = CF1 + Cᵥ1 * x

TC2 = CF2 + Cᵥ2 * x

 CF2 + Cᵥ2 * x = CF1 + Cᵥ1 * x

CF2 − CF1
 X=
Cᵥ1− Cᵥ2

With x = critical production quantity


CF = fixed costs
Cᵥ = variable costs
TC = Total Costs

1.3.) Profit comparison calculation


- Comparison of the profits of different alternatives
- Expansion of the cost comparison by the sales revenues
- alternative investment objects may differ in their quantitative performance
- possible to consider different sales prices

Formula: Profit = Sales – Costs

G ≥ 0 or G (investment object 1) > G (investment object 2)

G ≤ 0  Do not invest

 Interest rate effects are not taken into account


 Different sales prices can be considered

1.4.) Profitability comparison calculation

Comparison of the profits with consideration of the bounded capital


(P+CI)
PCC = * 100 %
(𝐴𝐶+𝑅) ∶ 2

With:

𝐀𝐂 + 𝐑
Calculating interest rates for the average tied capital CI = *i
𝟐
P = Profit
AC = Acquisition Cost
R = Residual Value

 Better calculation results because here are the capital expenditure considered
 Interest rate effects are not taken into account
 Different sales prices can be considered

1.5.) Payback calculation  amortization calculation:

Calculating the recovery period in which the surpluses cover the capital

Formula: (Cost of acquisition - liquidation proceeds) / (profit + depreciation)

𝐀𝐂 + 𝐑
Payback duration PD =
𝑷+𝑫

D = Depreciation
R = Residual Value
P = Profit
AC = Acquisition cost
PD = Amortization duration measured in years

- Not taking into account different useful lifes

2. Dynamic Investment Calculation

More meaningful than the static investment calculation


- Considering of different useful periods, different depreciation methods, interest rates
and payments
- With considering the interest rates, the payments will be comparable
- Considering that the same level of payment today is more valuable than the same level
of payment in two years

2.1.) Present Value


The present value calculates the value obtained if different paymets (discrepancies and
disbursements) are discounted to the present date. By discounting the deposits and
withdrawals to the present date with an interest rate, the total value of all payments can be
calculated to the present time. The present value can be positive or negative. The cash value
also depends crucially on the level of the interest rate, which is used to disclose the cash
inflows and outflows.

Discounting to the initial date of the investment

𝑃 = 𝐶 (1 + 𝑖) −𝑡

With P = Present Value


C = Capital amount or future payments
i = interest rate per year
t = investement space in years

2.2) End (or final) value

Considering the interest rates and compound interest rates effects from now to the end of the
investment within the calculation of the value at the end of the investment

𝐸 = 𝐶 (1 + 𝑖) 𝑡

With E = End Value


C = Capital amount
i = interest rate per year
t = investement space in years

Calculation is known from savings book.

2.3 Net Present Value  Capital Value


The method of capital value indicates whether an investment is advantageous in the sense of
generating a profit when the investment is carried out. This is indicated by a positive result in
the calculation of the net present value. If, however, a negative result is calculated in the
calculation of the net present value, the investment should not be carried out. Because then no
profit is generated. The respective amount of the net present value represents the respective
profit. The cash values of all payments and disbursements are taken into account at the
present time. In these calculations, inital investments, residual book values or residual value
values can also be included.

Kᴏ = Kᴇ - Kᴡ

With Kᴏ = Net Present Value


Kᴇ = Net Present Value of all payments
Kᴡ = Net Present Value of all disbursement

1 1
Or Kᴏ = - Aᴏ + ∑ [ (Pᵤ - Dᵤ) * ] +R*
(1+i)ᴺ (1+i)ᴺ

With Kᴏ = Net Present Value


Aᴏ = Initial Investment
Pᵤ = Payments in period u
Dᵤ = Disbursements in period u
N = Number of years
R = Residual book values
i = calculation interest rate

If the net present value Kᴏ is greater than 0, then the interest rate on the investment is higher
than the interest rate i selected for the calculation of the capital value. The higher the interest
rates are chosen for the calculation of the capital value, the lower the calculated capital value.
The main disadvantages of the NPV methods are that:

- the internal interest rate of the investment is not covered by the net present value
method.
- It is also uncertain whether the payments and withdrawals can be realized in real life
or precisely reflect reality.
2.4 Annuity

Method of annuity is closely related to the net present value method. While the net present
value method calculates the profit at the end of the investment, the annuity method calculates
the profit per year. This is achieved in the annuity method by comparing the average deposits
to the average payouts per period. Of course, these average deposits as well as the average
disbursements are discounted to the respective point in time. The resulting cash values are
then divided into the same high amounts - the annuities. This is achieved by multiplying the
capital value by the capital gain factor.

𝑖 (1 + 𝑖) 𝑡
𝐴 = 𝐾ᴏ
(1 + i)‫־‬ᵗ − 1
With: A = Annuity
P = Present Value
i = interest rates
t = number of periods

The advantages and disadvantages of the annuity model are fundamentally the same as those
of the NPV model. The advantages of investments can be calculated. The higher the capital
value or the annuity value, the more advantageous the investment would be. In addition, the
annuity value can be used to determine the optimal point in time when the optimal
replacement time is for a different investment. However, in the annuity method the payment
series and payment flows are also questioned.

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