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How to calculate net present value using Net present value (NPV)?
Following are cash flow for P1 and P2
| Year | 1 | 2 | 3 | 4 | 5 |
|---|---|---|---|---|---|
| Project 1 (P1) | 4000 | 4600 | 5800 | 7200 | 3500 |
| Project (P2) | 4000 | 4800 | 3600 | 5400 | 3500 |
| Year 1 | Year 2 | Year 3 | Year 4 | Year 5 |
|---|---|---|---|---|
| 0.925 | 0.892 | 0.749 | 0.671 | 0.602 |
Present value Rs.1/- @10% (discounted factor) using present value table
Solution
The solution is stated below −
For Project 1 (P1) −
Initial investment = Rs. 35000/-
| Year | Discounted factor | Returns | Net present value |
|---|---|---|---|
| 1 | 0.925 | 4000 | 3700 |
| 2 | 0.892 | 4600 | 4103.2 |
| 3 | 0.749 | 5800 | 4344.2 |
| 4 | 0.671 | 7200 | 4831.2 |
| 5 | 0.602 | 3500 | 2107 |
| 25100 | 19085.6 |
Present value = Rs.19085.6/-
Return on investment = (25100-19085.6)/35000 => 0.17184 => 17.184%
For Project 2 (P2) −
Initial investment = Rs. 23000/-
| Year | Discounted factor | Returns | Net present value |
|---|---|---|---|
| 1 | 0.925 | 4000 | 3700 |
| 2 | 0.892 | 4800 | 4281.6 |
| 3 | 0.749 | 3600 | 2696.4 |
| 4 | 0.671 | 5400 | 3623.4 |
| 5 | 0.602 | 3500 | 2107 |
| 21300 | 16408.4 |
Present value = Rs.19085.6/-
Return on investment = (21300-16408.4)/23000 => 0.21268 => 21.268%
Hence, from the above calculations:
Return on investments for P2 is more than P1
So, project P2 is selected.
Updated on: 2020-09-25T16:36:43+05:30
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