Study Finance

For more financial Excel templates like this:

Visit: studyfinance.com
Email: support@studyfinance.com

You are free to use this template for any purpose you like, including commercial
credit studyfinance.com and cite our website as the original source.

Study Finance is an educational platform to help you learn fundamental finance

© 1999-2020. All rights reserved.
cluding commercial use, as long as you

undamental finance and accounting concepts.

 Net Present Value

Net present value is used to calculate the present value of multiple future cash flows. NPV analysis takes all of the
future cash flows and discounts them back to time 0 then compares them against the initial cost. NPV analysis can
be used to analyze various business decisions. The higher the NPV the more beneficial the decision. NPV analysis
can be used to evaluate a single decision or compare several choices. Theoretically, the company should choose
any decision that has a NPV greater than 0.
This example involves the decision to purchase a new machine to replace an old one. JonesCo needs to purchase a
new machine and has a choice of two machines that will provide the same function. Machine A cost $100,000 and
would provide savings of $25,000 for the next five years. Machine B cost $75,000 and would provide savings of
$20,000 for the next 5 years. The company's discount rate is 10%.

Machine A Time
0 1 2 3 4 5
Cash flows -$100,000 $25,000 $25,000 $25,000 $25,000 $25,000

Machine B Time
0 1 2 3 4 5
Cash flows -$75,000 $20,000 $20,000 $20,000 $20,000 $20,000

Machine A costs more than machine B but also provides higher savings than machine B in the future. Both
machines have total savings of $25,000 over the cost of the machine. NPV analysis can be used to find out which
machine will benefit the company the most.
Machine A Machine B
NPV ### NPV $815.74

Machine A has a NPV of -$5230.33, this means that the present value of the future cash flows is not enough to
outweigh the costs of the machine. Machine B has a NPV of $815.74, this means that the present value of the future
cash flows is enough to outweigh the costs of the machine. NPV analysis shows that the best choice of machinery is
machine B as it provides the greatest benefit to the company.
NPV can be easily calculated using the net presentNet value
Present ValueinFunction
function Excel. The NPV function can be found under the financial
category. There is one issue regarding the NPV function, it can only be used on future cash flows. NPV assumes all cash flows
are at the end of the period and therefore discounts all cash flows back to time 0. If there is a cash outflow at time 0 then it will
erroneously discount it. If a outflow occurs at time 0, it must be added to the discounted future cash flows. To illustrate this we will
use machine B from the previous example.

Machine B
Discount
0 1 2 3 4 5 Rate
Cash flows -$75,000 $20,000 $20,000 $20,000 $20,000 $20,000 10%

=B8+NPV(I8,C8,D8,E8,F8
NPV $815.74 Formula ,G8)

Discount Rate

Future Cash flows

Assumption that cash flows occur at the end

of the period