Description

CAPITAL INVESTMENT ANALYSIS

Donald W. Lybecker and Karen L. Holman
Department of Agricultural & Natural Resource Economics
Colorado State University, Fort Collins, CO 80523, July 1987
Modified for Windows Spreadsheets by Duane Griffith
Extension Farm Management Specialist
Montana State University, December 1995
See Macros Page Tab for Available Macros
This template analyzes the profitability of a capital investment
using Net Present Value (NPV) and Internal Rate of Return (IRR). Since
not all profitable investments are financially feasible, the template
also evaluates the financial feasibility of the investment from a cash
flow standpoint. The template evaluates assets with a useful life of up
to 20 years. It uses MACRS depreciation and loan amortization with
single annual payments.
Profitability:
A profitable investment will have a positive NPV. IRR indicates
the rate of return earned by this investment. Profitability is calculated
as total receipts less expenses less income tax, discounted to the
present using the weighted cost of capital. Simply stated, it means
that over time receipts exceed expenses in today's dollars.
Financial Feasibility:
The second part of the analysis shows in which years this investment
generates a negative cash flow. The net return calculated above
is adjusted for principal and interest payments, less any tax savings
due to interest. Before undertaking the investment, the operator should
reasonably certain he can make up any negative cash flows from other
sources.
Net present value is calculated using the weighted cost of capital;
that is, a weighted average of the after-tax loan rate on borrowed capital
and the opportunity cost on equity capital.
Cash income and cash expenses are both multiplied by the expected
inflation rate for each year. Income tax is computed as total receipts
- total expenses - depreciation * the marginal tax rate.
Depreciation is computed by the appropriate MACRS method. Due to
distortions inherent in the declining balance method, the last year of
depreciation may be higher than the previous year.
It is assumed that the asset is sold for "salvage value" at the
end of the asset's life. Since book value is presumably 0, the asset
sale is treated as income and the proceeds taxed.

Page 1

Description

Any loan on the investment is amortized by equal annual payments.

Tax savings from interest payments are computed as interest paid * tax
rate and deducted from the total payment to give an after-tax payment.
This is deducted from net receipts to compute net cash flow.
The template is designed to analyze an asset with a useful life of
2 to 20 years. The recovery period is associated only with asset depreciation
for tax purposes, and may well be different from the asset life.
However, the more closely the recovery period (tax depreciation) and
useful life (management depreciation) match, the more accurate the
analysis.
Some investments may show a "negative" income tax. The template
assumes that this tax savings can be used within the business to reduce
the overall tax liability. This assumption may not apply to all farms.
Input Item
Name (tractor, combine, etc.):
Purchase Price:
Salvage Value:
Recovery Period (3,5,7,15,20 yrs):
Asset Life (2-20 yrs):
Expensing ($10,000 maximum):
Income Tax Rate:
Percent Financed by Loan:
Loan Interest Rate:
Loan Length (years):
Opportunity Cost:
Cash Income:
Cash Expenses:
Inflation Rate:

Input Definitions
Descriptive name for item being analyzed
Total price paid, cash + loan
Estimated sale value at end of analysis period
Tax life (MACRS) of asset
Expected useful life of asset; or length of analysis
Dollars of investment claimed as current expense
Marginal income tax rate (rate on last dollar earned)
Portion of purchase price that is borrowed
Annual interest rate charged on this loan
Term of loan in years
Rate equity capital could earn if invested elsewhere
Gross income expected from investment in first year
Cash costs incurred by investment in first year
Expected inflation rate for income & expenses

Note: Enter percents as decimals (e.g., .28, not 28).

TEMPLATE OPERATIONS
Operation of this template under Windows, is significantly different than
operation under the old DOS version. The program has been divided into
pages with each page representing a portion of the input or results. The screen
will show page tabs that contain the 1) Instructions, 2) Input, 3) NPV Results,
and 4) the profitability and financial feasibility results. The input page also
contains several intermediate calculations displayed or used in the results in
other locations.
To move around and input data or view results, click on the page tab at the
bottom or top of the screen (depends on what windows spreadsheet you are
using).
ERROR MESSAGES

Page 2

Description
Input Errors:
The template checks for certain error conditions during data entry.
Such error conditions include assets with a life other than 3, 5, 7, 15
or 20 years; salvage value > purchase price; loan > purchase price; etc.

Read any error messages or comments displayed by the template.

Select INPUT and change your data if necessary. You may choose to ignore
the message if the data is correct for your particular analysis.
TEMPLATE LAYOUT
DOCUMENTATION
INPUTS
RESULTS

COMMENTS/ERRORS
LOAN AMORTIZATION
DEPRECIATION

Description Page Tab (Rows 1 through 128)

Program Page Tab (Cell block C14 through C27)
Program Page Tab (Cell block J1 through AE34)
Profitability Results (Cell block J1 through AE17)
Financial Feasibility Results (Cell block J19 through AE34)
Program Page Tab (Cell block AH9 through AK17)
Program Page Tab (Cell block AH22 through AK49)
Program Page Tab (Cell block AQ1 through BM12)

Page 3

Description

Page 4

Description

Page 5

Description

Page 6

Program

CAPITAL INVESTMENT ANALYSIS

Calculations, Profitability and Financial Feasiblity Analysis>>>
Donald W. Lybecker and Karen L. Holman
Department of Agricultural & Natural Resource Economics
Colorado State University, Fort Collins, CO 80523, July 1987
Modified for Windows Spreadsheets by Duane Griffith
Extension Farm Management Specialist
Montana State University, December 1995

The double lined box below is the ONLY input required for this program.
Inputs for Analysis:

Comments/Error Messages

Name (tractor, combine, etc.):

Purchase Price:
Salvage Value:
Recovery Period (3,5,7,15,20 yrs):
Asset Life (2-20 yrs):
Expensing ($10,000 maximum):
Income Tax Rate:
Percent Financed by Loan:
Loan Interest Rate:
Loan Length (years):
Opportunity Cost:
Cash Income:
Cash Expenses:
Inflation Rate:

Chopper
$24,000
$2,000
7
10
$0
28.00%
75.00%
9.00%
5
6.00%
$0
$1,240
5.00%

0
0
0
0
0
0
0
0
0
0
0
0

Results and Interpretation for NPV and IRR.

Net Present Value (NPV)---------------------------->

Internal Rate of Return (IRR)---------------------->
If NPV is positive, the investment is profitable if you are analyzing an
investment that generates an identifable cash inflow. If you are analyzing
and investment that has only cash outflows associated with it, (Fuel, oil,
repairs, taxes, etc.) then the NPV will always be negative.
In this case, alternative investments are choosen by selecting the smallest
negative number.
IRR is the rate actually being earned on the investment
under these input assumptions. Please note however, that the IRR is
not a "reliable" measure. It often produces inaccurate results and may display
Err or #NUM!.

Page 7

($25,578.09)
Err:523

Program

Page 8

Program

Profitability:
Year

Chopper
Year

Year

Year

0
0
0

0
0
0

0
0
0

0
0
0

Expenses

24,000

1,240

1,302

1,367

Income Tax
Total Expenses:

0
24,000

-2,267
-1,027

-1,736
-434

-1,362
5

-24,000

1,027

434

-5

Receipts
Salvage Value
Total Receipts:

Net Receipts:

NPV:
IRR:

($25,578)
Err:523

Financial Feasibility:
Year

Chopper

Year

Year

Year

-6,000

1,027

434

-5

Principal:
Interest:
Total payment:
Tax savings on
interest:
After-tax pmt:

0
0
0

3,008
1,620
4,628

3,278
1,349
4,628

3,573
1,054
4,628

0
0

454
4,174

378
4,250

295
4,332

Net cash flow:

-6,000

-3,147

-3,816

-4,337

Net receipts:

Profitability:
A profitable investment will have a positive NPV. IRR indicates
the rate of return earned by this investment. Profitability is calculated as total receipts less expenses less income tax, discounted to the
present using the weighted cost of capital. Simply stated, it means
that over time receipts exceed expenses in today's dollars.

Page 9

Program

Page 10

Program

Year

Year

Year

Year

Year

Year

Year

Year

10

11

0
0
0

0
0
0

0
0
0

0
0
0

0
0
0

0
0
0

0
2,000
2,000

0
0
0

1,435

1,507

1,583

1,662

1,745

1,832

1,924

-1,102
334

-922
585

-800
782

-1,358
304

-489
1,256

-513
1,319

21
1,945

0
0

-334

-585

-782

-304

-1,256

-1,319

55

Year

Year

Year

Year

Year

Year

Year

Year

10

11

-334

-585

-782

-304

-1,256

-1,319

55

3,895
733
4,628

4,246
382
4,628

0
0
0

0
0
0

0
0
0

0
0
0

0
0
0

0
0
0

205
4,423

107
4,521

0
0

0
0

0
0

0
0

0
0

0
0

-4,756

-5,106

-782

-304

-1,256

-1,319

55

Financial Feasibility:

The second part of the analysis shows in which

ment generates a negative cash flow. The net retu
is adjusted for principal and interest payments, les
due to interest. Before undertaking the investment
reasonably certain he can make up any negative ca
sources.

Page 11

Program

Page 12

Program

Year

Year

Year

Year

Year

Year

Year

Year

12

13

14

15

16

17

18

19

0
0
0

0
0
0

0
0
0

0
0
0

0
0
0

0
0
0

0
0
0

0
0
0

0
0

0
0

0
0

0
0

0
0

0
0

0
0

0
0

Year

Year

Year

Year

Year

Year

Year

Year

12

13

14

15

16

17

18

19

0
0
0

0
0
0

0
0
0

0
0
0

0
0
0

0
0
0

0
0
0

0
0
0

0
0

0
0

0
0

0
0

0
0

0
0

0
0

0
0

part of the analysis shows in which years this investa negative cash flow. The net return calculated above
principal and interest payments, less any tax savings
Before undertaking the investment, the operator should
ain he can make up any negative cash flows from other

Page 13

Program

Page 14

Program

WEIGHTED COST OF CALCULATION

Year

WEIGHTED COST OF CAPITAL:

20
0
0
0
COMMENTS AND ERROR MESSAGES
-

0
0
0

SV > Purchase Price

Not a Recovery Period
Life not in Range
Exceeds Expensing Max
Tax Rate > 40%
Loan > Purchase Price
Asset Life < RecoveryPd

Year
20

LOAN AMORTIZATION CALCULATIONS

0
0
0
0

Year
1
2
3
4
5
6
7
8
9
10
11
12
13
14
15
16
17
18
19
20

0
0
0

Page 15

Program

Page 16

Program

TED COST OF CALCULATION

Depreciation

GHTED COST OF CAPITAL:

6.36%
Recovery
Period

ENTS AND ERROR MESSAGES

-

3
5
7
15
20

Interest > 30%

Loan Length > 20 yrs
Opportunity Cost > 30%
Income > Purchase Price
Exp. > Purchase Price
Inflation Rate > 30%
Loan life > Asset Life

ecovery Period

s Expensing Max

Purchase Price
ife < RecoveryPd

Total

MORTIZATION CALCULATIONS:
Payment:
Rem. Balance

Year

4,628

Interest
18,000
14,992
11,714
8,141
4,246
0
0
0
0
0
0
0
0
0
0
0
0
0
0
0

Total Principal Repaid-------->

Principal
1,620
1,349
1,054
733
382
0
0
0
0
0
0
0
0
0
0
0
0
0
0
0

3,008
3,278
3,573
3,895
4,246
0
0
0
0
0
0
0
0
0
0
0
0
0
0
0
18,000

Page 17

1
0
0
6,857
0
0
6,857

Program

Page 18

Program

Year

Year

Year

Year

Year

Year

Year

Year

Year

2
0
0
4,898
0
0

3
0
0
3,499
0
0

10

0
2,499
0
0

0
1,785
0
0

1,275
0
0

3,187
0
0

0
0

0
0

0
0

4,898

3,499

2,499

1,785

1,275

3,187

Page 19

Program

Page 20

Program

Year

Year

Year

Year

Year

Year

Year

Year

Year

11

12

13

14

15

16

17

18

19

0
0

0
0

0
0

0
0

0
0

Page 21

Program

Page 22

Program

Year
20

Sum
0
0
24,000
0
0

Page 23

Program

Page 24

Program

Page 25

Program

Page 26

Program

Page 27

Program

Page 28

Program

Page 29

Program

Page 30

Program

NAME
-------BASIS
FEASIB
INPUTRANGE
LIFE
LOAN
PROFIT

RANGE
----------D5
K21
B1..F20
D8
D13
K1

PURPOSE
-------------------------------------------------Depreciable basis for this asset
Cell to GOTO for feasibility details on screen
Range for /Range Input command
Asset life
Loan length
Cell to GOTO for profitability details on screen

Page 31

Program

Page 32