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Net” Present Value (NPV) Method

11 K first DCF/I’V technique b the  NPV Allay be described as the summation of the present values of Gish proceeds (CfA i) in each year minus the summation of prudent values of the net cash outflows in each year. Symbolically, the NPV for projects having
conventional l’a,h flows would be:

If cash outflow is also expected to occur at some time other than at initial investment (non conventional cash flows) the formula would be:

T-he decision rule for a project under NPV is to accept the project if the NPV is positive and reject if it h negative. Symbolical
(j) l”PV > zero: accept, (ii) NPV < zero, reject’ (10.6)

Zero  implies that the ‘film is indifferent to accepting or rejecting the project. However, in pr. it is rare If Carr such a project will be accepted.IS such a situation simply implies that 01″)1): the original investment has been recovered In Example 10,6 we would aC’l’I)t the proposals of purchasing machines A and B as their net present values arc positive. The positive NPV of machine A is Rs 13520 (R 69,64S – R~ 6.12i ) and that of 13 is H s l’i,5% (Rs 71.521 – Hs  56.12 S ) Example 10,6, if we incorporate cash outflows of Rs 2.000 at the end of the third year in respect of overhaul of the machine we shall find the proposals to purchase either of  machinates are unacceptable as their net present values arc negative. TIIC negative PV of machine is Rx 6.2 Rs 7.9001 and of machine 13 i, Hs .3..~79 (Rs 71521 – Hs 7’1.900), .’, As a decision criterion. this method can also be used to make a choice between mutually exclusive projects. On the’ basis of the NPV method. the various proposals would be ranked in order of till’ net present values. The project with the highest NPV would be assigned the first ·rank., followed by others in the descending order. If. III our example, a choice U, to be made between mariachi  and much- B on the ha,is of the ‘ method. machine II ha larger NPV I H’ 1′;,3%) would he preferred to chine A NPV being  I b 12.520),

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