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Net Present Value Method Of Capital Budgeting And Evaluation

Net Present Value Method Of Capital Budgeting And Evaluation:

Net present value method is one of the modern methods for evaluating the project proposals. In this method cash inflows are considered with the time value of the money. Net present value describes as the summation of the present value of cash inflow and present value of cash outflow. Net present value is the difference between the total present value of future cash inflows and the total present value of future cash outflows.

Merits Of Net Present Value Method Of Capital Budgeting And Evaluation:

1. It recognizes the time value of money.

2. It considers the total benefits arising out of the proposal.

3. It is the best method for the selection of mutually exclusive projects.

4. It helps to achieve the maximization of shareholders’ wealth.

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[Post Image Courtesy of SuphaKit73 at FreeDigitalPhotos.net]

Demerits Of Net Present Value Method Of Capital Budgeting And Evaluation:

1. It is difficult to understand and calculate.

2. It needs the discount factors for calculation of present values.

3. It is not suitable for the projects having different effective lives.

Accept/Reject criteria For Net Present Value Method Of Capital Budgeting And Evaluation:

If the present value of cash inflows is more than the present value of cash outflows, it would be accepted. If not, it would be rejected

Note well that If the cash inflows are not given in that cases the calculation of cash inflows are Net profit after tax+Depreciation. In this type of situation first find out the Net profit after depreciation and deducting the tax and then add the deprecation. It gives the cash inflow.

About Author Mohamed Abu 'l-Gharaniq

when an unknown printer took a galley of type and scrambled it to make a type specimen book. It has survived not only five centuries.

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