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Discounted cash flow techniques (part 5) – ACCA (AFM) lectures

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Comments

  1. julianleong says

    January 21, 2022 at 5:28 am

    Hi Mr. Moffat,

    I don’t understand why the first formula is <=14000 since any capital not invested in time zero may be put into a deposit. In real life, we will definitely put it into a deposit to earn the 7% interest even though it is less than the cost of capital of 10% so the formula should always be =14000. Theoretically, though, it is possible to not put the unused capital into a deposit and it could be <=14000. Is this where you are coming from?

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    • John Moffat says

      January 21, 2022 at 10:10 am

      Why on earth would you definitely put money on deposit when it is being borrowed at 10% and depositing it only earns 7%? !! It would be better simply not to borrow it (unless being able to use the money a year later could end up giving a higher return than the amount being lost in the first year).

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      • Ashvin5 says

        May 3, 2023 at 5:40 pm

        I think Julian means if you did borrow money and decide to keep some for end of year 1 to invest afterwards as the scenario lays out, there’s no reason to just keep it without earning an interest on it.

        By putting <= 14000, you are saying that there may be left over money that has been borrowed that is just being kept for end of year 1. Basically, we’re not even getting the interest of 7% on it. So in essence, we’re paying out 10% of interest just to hold money and that’s not realistic.

        Following that logic and assuming we had to borrow the money in Y0 to keep it for Y1 as mentioned in the video, would it not be better to put = 14000?

  2. naveez says

    June 7, 2021 at 4:05 pm

    Sir,
    is it right if I formulate the constraint for Y this way:
    4000a + 6000c ? 5000 + 1.07x +2000b
    Pls Advise!

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    • naveez says

      June 7, 2021 at 4:08 pm

      ^^
      Year 1
      4000a + 6000c <(less than or equal) 5000 + 1.07x +2000b

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  3. karang says

    June 7, 2021 at 3:32 pm

    Hi John

    Do we take interest on debt while calculating the NPV of a project in project appraisal in our cash flows as we will having a cash outflow??

    So if we are not considering than it will PBIT to which we will deduct tax and add back dep right??

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  4. bolajiekundayo says

    June 2, 2021 at 3:14 pm

    Hello sir

    Can you please explain how did you get the npv of po (0.027) ?? does it mean the pv of Po is 0.946
    if the NPV = 0.973Po – Po = – 0.027Po

    Thanks

    Bola

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    • John Moffat says

      June 2, 2021 at 3:25 pm

      0.973xPo – 1xPo = Po (0.973 – 1) = Po x 0.027

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  5. Noah098 says

    November 27, 2020 at 8:47 am

    sir so if we use NPV per $ invested we realise that A and B are better options compared to C. But we can remain invested in 1/6th of project C (infinitely divisible) at T0. And at T1 1/6th of C would need $1000 of investment and A would $4000 of investment, which will be fully covered by $5000 of cash surplus at T1.

    The point where am i trying to get to is that, when deciding between Project C and depositing at 7%(both of which are feasible but mutually-exclusive) at T0, do we compare C’s overall IRR with deposit rate or look at the fact that in 1year’s time C reaps no return whereas depositing the money at least lands 7%? As in on what basis do we decide the fate of remaining $14000-$5000-$8000=$1000??

    I know in the exam we may never have to recommend, but just out of curiosity i was wanting to know this. Would be glad if you could shed some light on this sir!

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  6. naini008 says

    September 26, 2020 at 11:19 am

    hello john
    when we divide 1.07 by 1.10 it does not equal to -0.027
    Please can u ellaborate how you calculated -0.027

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    • John Moffat says

      September 26, 2020 at 2:23 pm

      Nowhere do I say it is equal to -0.027. It is equal to 0.973 exactly as I wrote.

      Therefore the NPV = 0973Po – Po = – 0.027Po

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      • naini008 says

        September 27, 2020 at 1:47 pm

        Sir i am confused because in answer of this example provided in notes
        the equation is written as Maximise NPV= 976a+2529b+862c+(1.07/1.1 x-x)
        there is no -0.027

      • John Moffat says

        September 27, 2020 at 3:36 pm

        (1.07/1.1)X – X = – 0.027X

        There is absolutely no point at all in using the notes without watching the lectures – they are only lecture notes to be used with the lectures.

  7. confideans says

    May 24, 2020 at 8:29 am

    could you please elaborate on the meaning of ” infinitely divisible”? Thank you.

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    • confideans says

      May 24, 2020 at 8:54 am

      and plus is it ok with 0<=P(0)<=14000 for precision?

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      • John Moffat says

        May 24, 2020 at 11:44 am

        For the first, it means you can do any fraction of a project.
        For the second, it is OK.

  8. megan95 says

    March 14, 2020 at 12:36 pm

    Thank you, sir, for your lecture. It is well explained.

    I do have a little question regarding the deposit.

    If I get it right, you mentioned in the lecture the reason we do not need to put a deposit in year 1 is that there no limitation on time 2, so we don’t need to borrow.

    Why no need to borrow leads to no deposit. Can’t I put a deposit just because I have more available money or I want to lower the risk?

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    • opentuition_team says

      March 14, 2020 at 5:28 pm

      They are certainly entitled to put money on deposit if they want to, but there would be no point given that the interest they would earn is less than the cost of borrowing.

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  9. chimmm says

    May 26, 2019 at 3:17 pm

    Dear Sir
    Thanks for the explanation. I’m getting it Right till 0.973 but I’ve heard you say in the lecture 🙁 the npv is 0.1 – 0.973) .
    So maybe I can’t really catch that can you please tell how 0.1 is really the investment of po ??

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    • John Moffat says

      May 27, 2019 at 12:43 pm

      I did not say that in the lecture.

      The PV of the inflow is 0.973Po
      The time 0 outlay is Po

      Therefore the NPV = 0.973Po – Po = – 0.027Po

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  10. chimmm says

    May 24, 2019 at 5:42 am

    Sir ,
    Can you please explain how did you get the npv of po (0.027) ??

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    • chimmm says

      May 24, 2019 at 5:43 am

      In the multi period capital rationing .

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      • John Moffat says

        May 24, 2019 at 9:15 am

        But I actually show the workings for this in the lecture!!!!

        There is an outflow of Po at time 0, and an inflow of Po(1.07) in 1 years time.

        So the NPV is Po(1.07)/1.1 – Po = – 0.027

      • chimmm says

        May 25, 2019 at 1:37 pm

        Thanks for the reply. But why have you shown the inflow of 1.07 in brackets meaning negative. The inflow should be positive right? And then divided by 1.1- ??

      • chimmm says

        May 25, 2019 at 1:41 pm

        Isn’t it should be like this :
        Inflow of 1.07 × 0.909 (10% disc factor) and the ans will be 0.973.

      • John Moffat says

        May 25, 2019 at 3:46 pm

        I have simply used brackets to show I am multiplying, not because it is negative!!!

        Dividing by 1.1 is the same as multiplying by 0.909 (that is how discount factors are calculated, as you should remember from Papers MA (was F2) and FM (was F9) !!!)

        What I wrote before is perfectly correct!
        Po x 1.07 / 1.1 = 0.973 Po
        Subtract the investment of Po and the NPV is – 0.027Po

  11. zhixiang85 says

    February 6, 2019 at 1:48 am

    Hi John,

    I don’t really understand the objective of your working on Year 0 and 1.

    I suppose Year 0 there is only $14,000 available cash flow. To invest I would choose Project B (8,000) and A (5,000) because of the NPV ranking, this will left me $1000 (14k – 8k – 5k) to be brought forward to Year 1 with another cash available of $5,000, which is $6000 (5k + 1k) in total, then I will be able to go for Project C. Am i missing something? Thanks

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    • John Moffat says

      February 6, 2019 at 6:53 am

      You are missing a few things.

      Firstly, you say B is better than A because of the NPV ranking. B is better but I assume you mean because of the NPV per $ invested ranking (as per single period capital rationing from Paper FM (was F9).

      Secondly, you say that you then have 6,000 available to invest in C at time 1. But C needs an investment of 6,000 at time 0 – nothing in the question says that C can be delayed.

      Thirdly, even if C could be delayed, what about the fact that A gives a higher NPV per $ than A. Why do you prefer to invest in C rather than in A?

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  12. sid84 says

    January 18, 2019 at 12:48 am

    here the 1st equation <=14000 ..where we have 14000 to invest

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    • John Moffat says

      January 18, 2019 at 7:43 am

      Are you asking a question?

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      • sid84 says

        January 19, 2019 at 2:28 am

        yes … all three projects are giving positive npv but here the 1st equation <=14000 ..where we have $14000 to invest ?? why <= 14000 ?

      • John Moffat says

        January 19, 2019 at 11:00 am

        There is no requirement to invest all 14,000 – the money is being borrowed and there is only any point in investing it if the return covers the cost of borrowing.

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