Cash Flow Example 2 Present value as function

Cash Flow Example 2 Present value as function of interest rate As shown in the table, we have three projects A, B and C. The table shows the cash flow for each year from year 0 to year 4. All sums are given in 1000 NOK. Year 0 1 2 3 4 Sum Project A -1 000 420 420 680 Project B -1 700 650 650 900 Project C - 850 580 400 300 100 530 We see that all projects have negative cash flow in year 0. We consider this year as the investment year. In the right side of table we see sum of cash flows for each of projects. Which project do you prefer to choose? (Look from a pure economic viewpoint) Prosjektstyring

Year 0 Discount Factor 1 1, 00 2 3 4 Sum - 0, 91 0, 83 0, 75 0, 68 Discounted Amount -1 000 382 349 315 286 332 PRESENT VALUE (1000 NOK) 900 We annual of payments Wesee seethatwith the choice interest happening rate atbecomes the end of each year, the present crucial. The interest rate value is the of project A byreturn an interest on 10%for becomes minimum that israte demanded 332000 project. NOK. That’s why it is often set equal to market We look interest. at annual payments of ? ? . Present value of project with interest rate of 10% We see that the. Achoice of interest becomes 332000 crucial. NOK. With similar calculation at interest rate of 20%, the present value of project A becomes 87000 NOK. The figure demonstrates the present value We calculate the present value for different as function of interest rates. We can plot them in a diagram. PROJECT B 800 With interest rate of for example 16% we will choose project C that has the largest present value among three projects. 700 PROJECT A 600 500 With interest rate of for example 6%, we will choose project B that has the largest present value among three projects. 400 PROJECT C 300 200 100 0 0 2 4 6 8 10 12 14 16 Http: //www. prosjektledelse. ntnu. no 18 20 22 24 26 28 30 INTEREST RATE % Prosjektstyring