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tejal says

Hello Sir,

Thank you for your lectures they are very clear and easy to understand.

I however have one small question on example 2 IRR calculation where we deducted -2160 from +6660 the answer should it not be +8820 instead of -8820? Is there anything I have missed

Thank you

John Moffat says

It really doesn’t make any difference whether you put a + or a -. If you understand what is happening (and not just learning a rule) then you will get the correct answer.

I put – simply because it is a fall of 8820 to go from +6620 down to – 2161.

tejal says

Yeah that is true. Thank you very much for the response

John Moffat says

You are welcome 🙂

loukasierides says

Dear Sir,

using the cross multiplication is very helpful both for understanding but also to save time and learning long formulae. Thank. you very much

Jennifer says

Hi John,

Thank you for the great work, this video played a big role in the success of my exam. With open tuition videos and notes I was able to prepare within the limited time I had. Once again thank you for the explanations and notes

John Moffat says

Thank you for your comment, and many congratulations on your success 🙂

Elvira says

Hi John,

I have a question concerning depreciation when calculating cash flows and NPV.

In ACCA F2 exam kit I came over a test in which depreciation was included when calculating cash flows (the explanation in answers was the following: “Depreciation is not a cash flow so needs to be added back to profit to calculate cash flows”).

But F2 text books and comments here state that depreciation is not an actual cash flow so it is not included in the capital appraisal calculation.

How can I differentiate when it should be included and when not? Or maybe there was a mistake in the exam kit?

Thank you very much!

John Moffat says

Please don’t put links to other websites (the link you gave was more relevant to Paper P4 anyway), and please in future ask this sort of question in the Ask the Tutor Forum.

Net present value is always calculated using only the cash flows, as explained in my lecture. Accounting profits are after subtracting depreciation. Depreciation is not a cash flow and therefore it needs to be added to the accounting profit to determine the cash flow.

There is certainly not a mistake in the exam kit – this point is fundamental to NPV calculations.

Thierry says

Hi John, I just have one question, how to know with accuracy with table to use? I mean by that how to distinguish this is the annuity table or the present value table that I going to use when it comes for calculations. thanks

John Moffat says

But I explain this in the lectures!!

You use the present value table for individual cash flows, and you use the annuity table for equal annual cash flows.

Thierry says

Thanks a lot.

Cfin says

Hi John,

For NPV, I have a Question. I understand the calc but I just want to have a deep understanding of why. The interest is 10%, but why are we calcing this against receipts and not against the loan/investment figure of 80k? With simple interest we come in with a figure of 6,000 net present value. W/ compound, 7,128. I know these are wrong. I just want to grasp fully, why we deduct from the receipts and not the investment/loan…..It’s been a long day.

John Moffat says

You could add interest to the amount borrowed and end up with a terminal value (as I explain in the lecture).

However, rather than end up with a value at the end of the project’s life, it is more useful for decision making to have an equivalent value ‘now’ which instead means removing interest from the future cash flows.

Cfin says

Thanks John.

P says

Sorry John if a question asks us to round the IRR to the appropriate integer should we always round it downwards? Why if so?

John Moffat says

No – round it to the nearest integer.

P says

Hi John

Can you please help, if I have a calculator which calculates NPV and IRR automatically – is it worth using it? Because for IRR I always to get different answer than using the approach discussed in the lecture for about 1 percentage point. Thanks. For now it seems that it can only create problems in the exam.

John Moffat says

No – don’t use it 🙂

(And if it displays text as well as numbers then you are not allowed to take it to the exam)

P says

Thank you! No, it’s a general calculator designed for CFA exam, the only thing it calculates similiar to the answers is just the payback period, unfortunately.

Aidan says

Hi John. There’s a question in the practice exam about Accounting Rate of Return, and I’ve watched both of your Investment Appraisal lectures, but I can’t find ARR in either of them. Is there another lecture I’m not aware of? Thanks for all your help so far. 🙂

Aidan

John Moffat says

I should really remove it because ARR itself is not in the syllabus.

However it is effectively the same as ROI which is covered as part of divisional performance measurement.

leme says

Hi Sir,

I would like to know if it is possible for IRR to be less than cost of capital and NPV to be positive, or IRR to be greater than cost of capital and NPV to be negative, should we accept the project? Based on which criteria?

Thanks!

John Moffat says

If the IRR is less than the cost of capital, then the NPV will be negative and the project should be rejected.

If the IRR is more than the cost of capital then the NPV will be positive and the project should be accepted.

The reasoning for this is explained within the lectures on IRR.

Walt says

Good day

In the mock exam there is a question to calculate the NPV, however this question includes inflows and outflows in every year. I took the net (Inflow less outflow) p.a and calculated that based on the NPV table in every year.

I have done the question several times but my answer is always incorrect (I have NPV of +$53,520) the answer when I review is +$53,610 – This is a small difference and I wonder if the NPV table with only 3 decimals could cause this?

The question is as follows:

Initial investment $300,000

Inflow per annum $120,000

Outflow (Incremental cost) per annum $30,000

Scrap value $20,000

Please help! 🙂

John Moffat says

Yes – it will be because of the rounding in the tables. Best is to use the tables that are provided in the exam 🙂

Walt says

thank you!

John Moffat says

You are welcome 🙂

salmah says

I’m confused on this difference too. I still get that difference even though I am using the tables provided at the beginning of the notes.

zee says

Do I have to worry about annuities and perpetuities in advance/arrears?

zee says

Also I wish to know why there is no impact on IRR when the cost of capital changes? Just came across a MCQ!

John Moffat says

The IRR is the rate of interest at which the NPV is zero. It is irrelevant when calculating it what the cost of capital is – the cost of capital may be higher or lower than the IRR.

John Moffat says

Yes – annuities and perpetuities starting at time 0 instead of time 1, or starting later than time 1, are examined and are covered in the lectures.

leme says

Hi sir,

For the first example, although the NPV has a surplus of $6660, why should we accept the project if we could invest $80 000 at 10% interest p.a. for 4 years which will give a total return of $117 128? Thanks!

John Moffat says

But if you invested the returns from the project at 10% per year you would end up with 126,920 which is more!

That would be the terminal value, and you cannot compare terminal values with present values.

The net terminal value would be 126,920 – 117,128 = 9,792

The net present value is 6,660.

6,660 now is equivalent to 9792 in 4 years time (6,660 x 1.1^4 = 9,751, the difference is simply due to rounding)

leme says

Right…i was not thinking about investing the returns. May I know how you got the terminal value $126 920? Thanks for your prompt reply!

John Moffat says

20,000 invested for 3 years (year 1 to year 4) grows to 20,000 x 1.1^3

30,000 invested for 2 years grows to 30,000 x 1.1^2

40,000 invested for 1 year grows to 40,000 x 1.1

and a total of 20,000 in 4 years, stays at 20,000

Then add them all together 🙂

Righan says

Hi Sir, Is the figure “15%” a given figure or at random? or I can choose another percentage like 16% 17% 20% etc; How can I get this percentage figure to compare?

John Moffat says

I do make it clear in the lecture than you can use any two ‘guesses’ in order to calculate the IRR (unless, obviously, the question specifically tells you which two rates to use).

Sammar says

17400 + 22680 + 26320 + 5720 + 5720 = 77840

80,000 – 77840 = 2160

It gives a positive value not a negative???

John Moffat says

What you have written does give a positive value, but you have written it wrong!!

The 80,000 is an outflow (which is why it has brackets round it). The other flows are all inflows. So there is a net outflow.

Sammar says

Oh yeah, sorry about that.

crisa0702 says

How do I calculate the discount factor for a 12.5% discount rate? Thank you

John Moffat says

You use the formula that is given at the top of the formula sheet (depending on whether you want the normal discount factor, or the annuity discount factor).

I go through this in the previous lecture.

cediva20 says

Thank you for help.

One question though..in the test post the chapter I’m not understanding why 8% was used to arrive at the IRR of 18%. I did get 18% but this was done the long way.

Please assist

John Moffat says

I don’t know what you mean by ‘the long way’- there is only one way of doing it, making two ‘guesses’ and then approximating between them.

Since we had already been asked to calculate the NPV at 12%, we had one value. You could try any rate of interest for the second value – my answer tried 20%.

(8% is the difference between 20% and 12%).

cediva20 says

Thank you

John Moffat says

You have asked this question twice, and I have already replied to the first one.

Morganne says

This was very helpful thank u but can u work this question for me plz

An investment has the following inflows and outflows

Time Cash flow per annum

0 (20,000)

1-4 3,000

5-8 7,000

10 (10,000)

What is the net present value of the investment at a discount rate of 8% ?

Farzana sultana says

is the answer -97265

Farzana sultana says

sorry,the answer should b this one -36935.i made a mistake first time

Jide says

Hello Sir,

Question 2 in the test questions after this chapter asks for the Internal Rate of Return (IRR) with no other discounting interest rate, hence, the difference in interest rates cannot be determined. The answers at the end of the notes uses 20%. Is there a way to determine the interest rate to be used if not given? if so, how? and if not, how do I go about it?

Many thanks.

John Moffat says

No- there is no way to determine.

As I explain in the lecture, you make one guess and then make a second guess. Any two guesses will do.

umas says

can we use a cfa approved calculator for all acca exams? – Thanks!

John Moffat says

You can use any calculator, provided that it can not store or display text.

Here is an extract from the ACCA exam regulations:

‘You are not permitted to use a dictionary or an electronic translator of any kind or have on or at your desk a calculator which can store or display text. You are also not permitted to use or have on or at your desk a mobile phone, tablet, pager, etc of any kind. These are known as ‘unauthorised items’. Any kept in bags or briefcases must be switched off at all times in the examination hall.’

mry73 says

Sir could you please explain this

Q. The following information relates to a two year project

initial investment $1 million

cash inflow year 1 $750000

cash inflow year 2 $500000

cost of capital year 1 10%

cost of capital year 2 15%

What is the NPV of project (to nearest $500)

Thanks in advance

John Moffat says

You need to discount the time 1 flow using the 1 year discount factor at 10% from the tables.

For the time 2 flow you need to discount for 1 year at 10% and 1 year at 15%, so multiply together the 1 year factors at 10 and 15%.

Sapana says

Sir , is this how the answer is done for the question:

750000*0.909=681750-1000000=318250

500000*0.756=378000-1000000=622000

10+318250/318250-6220000*10

=9.461

=94.6%

John Moffat says

No – this makes no sense at all, and the NPV is never a %.

You do it the way that I wrote before.

Sapana says

Sir sorry I might have done different thing as this is my first class on this ,

I should have done this :

Year. Df. Cash flow

0. – ( 1000000)

1. 0.909 750000. =681750

2. 0.756 500000. = 378000

Total – 1000000 =59750 ( npv)

Can u plz suggest me again .

elle says

Hi. Would you kindly explain the cost of capital. If a comp invests 24000 and and profits are 5000 pa for 6 years. Cost of capital is 12%. Its 12%of 5000 pa. Why does the comp get 12% less on each increment of 5000? Where does this cost come from? And why is it deducted from the 5000 each year?

John Moffat says

The interest is charged on the amount invested. AT the beginning the interest is on the entire 24,000 but every time we receive 5,000 it reduces the amount borrowed and therefore saves interest.

The cost of capital is effectively the interest and you cannot be required to calculate it until Paper F9. In Paper F2 it will be given in the question.

sooner says

Thank you John Moffat. Thanks for the correction in spelling. Typo error and maybe exam pressure lol.

Have a bless Day .

sooner says

Goodnight John Moffat

Please walk me through this question: At an interest rate of 15% the net present valve of a project is $2,500.

At an interest rate of 20%, the net present valve falls to minus $4,000.

What is the Internal Rate of Return of the Project

John Moffat says

The net present value (not valve 🙂 ), falls by 6,500 over a chang of 5%’s.

At 15% the NPV is 2500, and so we want it to fall by 2,500 to get an NPV of zero.

A fall of 2,500 will be 2500/6500 x 5%.

If you add this to the 15%, then you will have the IRR.

Sapana says

Sir if the answer for this is 16.92%?

fizzanaqvi says

Mr john is the best!! i love seeing him in the videos. it kind of gets more interactive. if possible please show up in the bideos Mr. john:)!

fatso1 says

Please help me to solve this Question. An equal payments of $200 is deposited in an account every month for 6 years. Interest is 15% p.a which is Compounded every month. What will be the balance after 6 years?.

John Moffat says

You need to use the annuity formula to get the present value of 200 a month, and then you need to compound the present value to get the terminal value by multiplying by (1+r)^n

To get the present value you multiply 200 by 1/r x (1 – 1/(1+r)^n) and then to get the terminal value you multiply by (1+r)^n

(or you can do both steps at once by multiplying 200 by 1/r x ( (1+r))^n – 1) )

r is the monthly interest rate and r is the number of months.

Shahnaz says

Hi. What would the answer for this question be and how would the workings be carried out?

Thanks

Shahnaz says

Hi. What would the answer for this question be and plz could you do the workings for me using numbers? I would greatly appreciate this 😀

Thanks

John Moffat says

I have shown the working in my last reply 🙂

John Moffat says

You won’t get more complicated problems

fatso1 says

Thank you sir, now l can solve more complicated problems. God bless you.

Jade says

Can someone please help me, trying to procuce an investment appraisal for a project for my HND accounting exam. Can someone tell me if it is both fixed and variable costs that go in to get your cash flow or only variable? and also is depreciation of the machine included in this also?

Need reply ASAP.

Thanks

carlynspringer says

you must note that depreciation is a non cash component. It will not be in the cash flow.

John Moffat says

You only include extra (incremental) cash costs to the company.

So depreciation is never included – it is not a cash cost.

Variable costs will be included – they will be extra costs.

Any extra fixed costs that will be incurred by the company are included (but only if they are extra costs)

bellanystewart says

thank you soooooooo much !!!!!!!

nakeshia says

A project has a normal pattern of cash flows. If the company’s cost of capital decreases what would be the effect on the NPV and the IRR.

Would NPV & IRR stay the same?

Need urgent reply.

John Moffat says

The NPV will change – with a lower cost of capital, the NPV will increase (which is logical – with less interest cost the project becomes more worthwhile).

Try is yourself – discount at a lower interest rate and see what happens.

The IRR will not change – it is not dependent on the cost of capital.

ch says

Great appreciate !!!!!!

sally925 says

Why isn’t the question he is reading not in the course notes???

sally925 says

Ok! I’m so sorry! It was my mistake. Found it!

tansi235 says

thank you sooooooo much…its really helpful 🙂

marembon says

On the test question 2 where is the 20% coming from.

chandhini says

Is this John Moffat’s lecture?

admin says

Yes, why? 🙂

levarshaw says

you are the best!!!!

accakeisha says

my goodness!!!i dont think there are other lecturers in the world better than OT…………….i was lost on the internal rate of return….but now i am found…thx OT!!!

1bo7jxj says

not able to view it on android gingerbread tablet. pls advise.

admin says

install if you have not already flash player

eugboadi says

i can’t access the online tuition tells me server not found so please help me out.thank you.

admin says

you are most likely behind a firewall, contact your internet provider for help

retha1955 says

Thanks. Great lecture. It makes things so much more understandable.