Unconventional Unconventional Cash Flows and Cash Flows and NPV MeasurementsNPV Measurements© Dr. B. C. Paul 2002 revisions 2008© Dr. B. C. Paul 2002 revisions 2008Note – The subject covered in these slides is considered to be “common Note – The subject covered in these slides is considered to be “common knowledge” to those familiar with the subject and books or articles covering the knowledge” to those familiar with the subject and books or articles covering the concepts are widespread. concepts are widespread.

Unconventional Cash Unconventional Cash Flows Have Big ImpactFlows Have Big Impact

Negative cash flows at the end of the Negative cash flows at the end of the project challenge the concept of money project challenge the concept of money growing in projectgrowing in project Destroyed the IRRDestroyed the IRR Can it harm NPV? Can it harm NPV? (and dependent measures like PVR)(and dependent measures like PVR)

We are talking about NPV of the investmentWe are talking about NPV of the investment On surface not effectedOn surface not effected It can assume businesses will do things they can’t It can assume businesses will do things they can’t

really doreally do

Unconventional Cash Unconventional Cash Flows and NPVFlows and NPV As long as you have plenty of opportunities to As long as you have plenty of opportunities to

invest at your required rate of return NPV is not invest at your required rate of return NPV is not effectedeffected Who really cares whether the money grew in the Who really cares whether the money grew in the

project as long as your getting your returnproject as long as your getting your return Example – Barrick Gold Mining has 50 gold mines. Example – Barrick Gold Mining has 50 gold mines.

One needs to be reclaimed so you take profits from One needs to be reclaimed so you take profits from other mines to pay for itother mines to pay for it Who cares which part of the portfolio paid for it?Who cares which part of the portfolio paid for it?

Problem comes up when money or opportunities Problem comes up when money or opportunities to invest at the rate are not a dime a dozento invest at the rate are not a dime a dozen

What if it Doesn’t?What if it Doesn’t?

Situation can occur oftenSituation can occur often Many businesses have developed specialties in one Many businesses have developed specialties in one

type of business or another - they are good at type of business or another - they are good at handling that type of riskhandling that type of risk They may not be able to handle risk well in other lines of They may not be able to handle risk well in other lines of

businessbusiness

Money outside of project may not be able to be Money outside of project may not be able to be locked into long term commitmentslocked into long term commitments

Many businesses can make 2 or 3 times more in Many businesses can make 2 or 3 times more in their field than in the general markettheir field than in the general market

The Toxic ProblemThe Toxic Problem

NPV is done at a single interest rateNPV is done at a single interest rate What happens if the negative cash flow What happens if the negative cash flow

event demands investing or saving at a event demands investing or saving at a lower interest ratelower interest rate

You’d have to put aside more money than You’d have to put aside more money than NPV reflectsNPV reflects