This pdf is only to learn payback, timevalue of money and IIr and there example are also given by me to easy to lean there example if any doute then contact me...

1. Payback Period,
Time Value of Money &
Internal Rate of Return
Presented By: SUBHASH ROHIT

2. Payback Period
Definition:
The Payback period is the amount
of time that it take to recover your costs in a
project.

3. FORMULA: Payback Period
Even Or Uneven
Even:
Payback Period = Initial Investment/ Annual Cash flows
Uneven:
Payback Period=A+(B/C)
Where;
A=The Last period with a negative cumulative cash flow
B=The absolute value of cumulative cash flow at the end of the period A;
C=The total cash flow during the period after A

4. Example
Even Cash Flow:
Company C is planning to undertake a project
requiring initial investment of $105 million.
The project is expected to generate $25
million per year for 7 years. Calculate the
payback period of the project.

5. Cont..
Payback Period = Initial Investment/ Annual Cash flows
=$105/$25
=4.2 year

6. Cont..
Uneven Cash Flows.
Company C is planning to undertake another project
requiring initial investment of $50 million and is
expected to generate $10 million in Year 1, $13
million in Year 2, $16 million in year 3, $19 million
in Year 4 and $22 million in Year 5. Calculate the
payback value of the project.

7. Cont..
Payback Period
= 3 + (|-$11M| ÷ $19M)
= 3 + ($11M ÷ $19M)
≈ 3 + 0.58
≈ 3.58 years
(cash flows in millions)
Year Cash Flow
Cumulative
Cash Flow
0 50 -50
1 10 -40
2 13 -27
3 16 -11
4 19 8
5 22 30

8. Payback Period Rule
The Decision Rule:
If the pay back period is less than the predetermined
payback, then the project would be Accepted; if not, it
would be rejected

9. Advantage of Payback Period
It is very simple. It is easy to understand and apply
 It is cost effective
The payback period measures the direct relationship
between annual cash inflows from Proposal and the net
investment required

10. Disadvantage Of Payback Period
The pay back period entirely ignores the cash
inflows that occur after the pay back period
The pay back period also ignores salvage value
and total economic life of the project
 It ignores the time value of money

11. Drawbacks of Payback Period
Does not consider all of the project’s case flows.
This project is clearly profitable, but we would
accept it based on a 4 year payback criterion!

12. Time Value Of Money
The concept modern finance and management.
We say that money has a time value because that
money can be invested with the expectation of earning
a positive rate of return
In other words, “a rupee received today is worth more
than a rupee to be received tomorrow”

13. Calculations based on the time value of money
Present Value - An amount of money today, or the
current value of a future cash flow
Future Value - An amount of money at some future
time period
‘n’ is the number of periods
‘r’ is the rate at which the amount will be compounded
each period

14. Cont…
PV(A) the value of the annuity at time = 0
FV(A) the value of the annuity at time = n
‘A’ the value of the individual payments in each
compounding period
‘n’ is the number of periods
‘r’ is the rate at which the amount will be compounded
each period

15. Formulas
Present value of a future sum / Future value
of a present sum.

16. Example
Consider 2 situations
•Option A: You receive Rs. 10,000 today.
•Option B: You receive Rs. 10,000 in 3 years time
•Assume no inflation
•Assume interest rate 10% (Compound Interest)
•Assume no change in any other financial situation

17. Future Value Calculation
Consider Option B
Let’s calculate the future value of Rs. 10,000
received at the present time.

18. Cont..

19. Present Value Calculation
Similarly using the equation as

20. Cont..
The present value of Rs. 10,000 received in 3 years
when the interest rate is 10% can be calculated as Rs.
7513.1

21. Cont..

22. (Internal Rate of Return) IRR
The IRR should be applied only for very simple
investments.
Internal rate of return (IRR) is the discount rate at
which the net present value of an investment becomes
zero. In other words, IRR is the discount rate which
equates the present value of the future cash flows of
an investment with the initial investment.

23. Cont…
Decision Rule
•Stand-alone Projects
•If IRR > cost of capital (k)  accept
•If IRR < cost of capital (k)  reject

24. IIR Calculation
•Formula

25. Cont..
Find the IRR of an investment having initial cash
outflow of $213,000. The cash inflows during the
first, second, third and fourth years are expected to be
$65,200, $96,000, $73,100 and $55,400
respectively.
Assume that r is 10%.

26. NPV at 10% discount rate = $18,372
Since NPV is greater than zero we have to increase
discount rate, thus
NPV at 13% discount rate = $4,521
But it is still greater than zero we have to further
increase the discount rate, thus
NPV at 14% discount rate = $204
NPV at 15% discount rate = ($3,975)
Since NPV is fairly close to zero at 14% value of r,
therefore
IRR ≈ 14%

27. Cont…
First, imagine a situation in which you invest $1
million today and then receive $500,000 per year
for the next 4 years. That investment gives an IRR of
35%, which would be pretty good by today’s
standards. Now let’s change some of the key
variables.

28. If instead you had to invest only $500,000 up front for
the same amount of return, the IRR improves to 93%.For
those of you unfamiliar with the terminology, a project with
an IRR of 93% is both rare and very desirable to pursue.
The reduction in the up-front investment caused the return to
skyrocket.
Now let’s go back to the initial $1 million investment and
make the return only $350,000 for 4 years. This
manipulation causes the IRR to drop to only 15% from the
previous value of 35%.

29. CONCLUSION
Any time you are evaluating an investment over time,
use time-value-of-money.
In financial modelling, allow for both time-value-of
money calculations as well as uncertainty to improve
your projections and the decisions on which they are
based.