Strategic financial management
For determining the financial health of the business, cash flow calculation is important. It is different from revenues, and it the only calculation by which one can understand how cash moves in and out of the company.
Thus, cash flow is one of the most important aspects of running any business, whether it is large or small. Managing cash flow is therefore very important for success of the company and businesses. (http://www.bized.co.uk/educators/level2/finance/lesson/cashflow1.htm )
NET PRESENT VALUE:
The present value is the current worth of a future summation of cash flows or money given a specified return rate. Every future cash flow is discounted at particular discount rate. As the discount rate goes up, the present value of future cash flows goes down. The companies need to calculate the proper discount rate for measuring future cash flows. (http://www.investopedia.com/terms/n/npv.asp)
Net present value includes all cash flows which includes initial cash flows such as the cost of purchasing property. Present value does not include this thing. The discount rate must be included in this. The present value is used when initial on-off cash flow is negative.
WhereCF1is the cash flow the investor receives in the first year, CF2the cash flow the investor receives in the second year etc.
Weakness of NPV:
The value of NPV is very sensitive to discount rate. A minor difference in the discount rate changes the value of NPV to large extends.
NPV sometimes depends on uncertain forecast of future cash flows.
"Total Present Value- Money can be invested to earn the interest. The earlier the money received, the more valuable the money. Financial managers take the same point when it is said that money in hand today has a time value."
(Webster's New World Finance and Investment Dictionary)
"Discount rate can be defined as the interest rate used to commute present values of future cash flows." (Fundamentals of Corporate Finance By R.A.Brealey, Stewart C. Myers and Alan J Marcus)
CCA (Capital Consumption Allowance):
TheCapital Cost Allowanceis "a tax subtraction that Canadian tax laws allow a business to claim for the loss in value of capital assets due to wear and tear or obsolescence" (Canada Revenue Agency). It is a non-cash deduction from the income that will in another way be subject to income taxation.
Effect of Capital consumption allowance on the firm's cash flows:
The capital consumption allowance measures the amount of expenditure that a firm or a company needs to undertake to simply maintain, as opposed to grow its productivity. CCA is like depreciation but its accounting depreciation.
Capital Consumption allowance as such doesn't affect the firm's cash flow directly, but it affects the Profit value and thus also affects the Taxation Value.
(3) Here, initial investment = 100,000
Here, the NPV of the LSC Corporation is negative. The negative value represents a financial lost for the organization. So, it is advisable for LSC not to invest in this particular project.