Scribd
Upload
6 views6 pages

Tutorial Financial Model

Uploaded by

2023197621
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
6 views6 pages

Tutorial Financial Model

Uploaded by

2023197621
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
You are on page 1/ 6

CHAPTER 3 : Measurable Organizational Value and

the Business Case

TUTORIAL FINANCIAL MODEL

Payback Period

Payback period is the time in which the initial cash outflow of an investment is
expected to be recovered from the cash inflows generated by the investment. It is
one of the simplest investment appraisal techniques.

Formula

1. EVEN CASH FLOW

Initial Investment
Payback Period = Cash Inflow per
Period

2. UNEVEN CASH FLOW

In the formula,
A is the last period with a negative
B cumulative cash flow;
B is the absolute value of cumulative
Payback Period = A + cash flow at the end of the period A;
C is the total cash flow during the period
C after A

Decision Rule

Accept the project only if its payback period is LESS than the target payback
period.

1
EXERCISE PAYBACK PERIOD

Example 1: Even Cash Flows


Company Tenang Enterprise is planning to undertake a project requiring initial
investment of RM105 million. The project is expected to generate RM25 million per
year for 7 years. Calculate the payback period of the project.

Solution
Payback Period = Initial Investment ÷ Annual Cash Flow = RM105M ÷ RM25M = 4.2
years

Example 2: Uneven Cash Flows


Company C is planning to undertake another project requiring initial investment of
RM50 million and is expected to generate RM10 million in Year 1, RM13 million in
Year 2, RM16 million in year 3, RM19 million in Year 4 and RM22 million in Year 5.
Calculate the payback value of the project.

Solution

(cash flows in Cumulati


millions) ve
Cash Cash
Year
Flow Flow

0 (50) (50)

1 10 (40)

2 13 (27)
3 (A) 16 (11) (B)
4 19 (C) 8
5 22 30

Payback Period = A B
+ C

A= 3
= 3 + (RM11M (B) ÷ RM19M (C)
)

2
NET PRESENT VALUE

Net Present Value(NPV) is a formula used to determine the present value of an


investment by the discounted sum of all cash flows received from the project. The
formula for the discounted sum of all cash flows can be rewritten as

Example of Net Present Value

To provide an example of Net Present Value, consider company ZamZam who is


determining whether they should invest in a new project. ZamZam will expect to
invest RM500,000 for the development of their new product. The company estimates
that the first year cash flow will be RM200,000, the second year cash flow will be
RM300,000, and the third year cash flow to be RM200,000. The expected return of
10% is used as the discount rate.

The following table provides each year's cash flow and the present value of each
cash flow.
Year Cash Flow Present Value
0 -RM500,000 RM500,000
1 RM200,000 RM181,818.18
2 RM300,000 RM247,933.88
3 RM200,000 RM150,262.96

Net Present Value = RM80,015.02


The net present value of this example can be shown in the formula

When solving for the NPV of the formula, this new project would be estimated to be a
valuable venture.

3
INTERNAL RATE OF RETURN (IRR)
IRR is the interest rate at which the net present value of all the cash flows (both
positive and negative) from a project or investment equal zero.

RULE -0
When NPV closest to zero, then you’ll find IRR

If IRR exceeds a company’s required rate of return, that project is desirable.

If IRR falls below the required rate of return, the project should be rejected.

EXCERCISE

Assume Company XYZ must decide whether to purchase a piece of factory


equipment for RM5000. The equipment would only last three years, but it is expected
to generate revenue of RM2300, RM 2100 and RM 2000 for the next three years.
Using IRR, Company XYZ can determine whether the equipment purchase is a better
use of its cash than its other investment options, which should return about 10%.

0 = - RM5000 + RM4984.23

= - 15.77 (value that closest to ZERO)

So IRR = 14%

4
This table below is an example of IRR and it’s calculated value between 15%, 14%,
13% and 10% for the exercise above. As shown in the table, 14% is the CLOSEST
VALUE TO ZERO though it’s NEGATIVE.

IRR Value
15% -96.31
14% -15.77
13% 77.83
10% 329.07

RETURN ON INVESTMENT

5
BREAK EVEN

Materials (putter head, shaft, grip, etc.) RM 12.00

Labor (0.5 hours at RM9.00/hr) RM 4.50

Overhead (rent, insurance, utilities, taxes, etc.) RM 8.50

Total RM 25.00

If you sell a golf putter for RM30.00 and it costs RM25.00 to make, you have a profit
margin of RM5.00:

Breakeven Point = Initial Investment / Net Profit Margin

= RM100,000 / RM5.00

= 20,000 units

You might also like