Company A now has a complete investment timeline: THB 1,000,000 today, followed by THB 450,000, THB 450,000, and THB 650,000 at the ends of years one to three. At a 9.12% required return, does the project add value, or merely return more undiscounted money than was paid?
The amounts are hypothetical nominal after-tax baht cash flows. Year three already includes the THB 200,000 working-capital release. There is no asset-sale receipt or continuing value after the project. Financing interest is not deducted from these flows. Keeping the same definition is necessary before comparing NPV, IRR, and payback.
We will use three tools that answer different questions, then examine why an attractive result may still be insufficient for approval. The goal is not to select the largest percentage or the shortest date. It is to explain the financial consequence of the decision in terms another manager can review.
Net present value (NPV) expresses the value difference at today’s date
Present values are approximately THB 412,390.03 for year one, THB 377,923.41 for year two, and THB 500,265.19 for year three. Their total is THB 1,290,578.63 before the initial investment. Small differences from independently adding displayed amounts can arise from rounding; the model retains full precision until the final result.
NPV = −1,000,000 + 450,000/1.0912 + 450,000/1.0912² + 650,000/1.0912³ = THB 290,578.63. It is positive under the stated assumptions. This is a value estimate over and above the modeled opportunity cost of capital, not accounting profit and not a cash payment the bank will credit today.
The OpenStax NPV chapter compares discounted inflows with discounted outflows. In a real decision, review the forecast, the selected rate, and competing uses of resources. A positive result is conditional evidence, not an exemption from checking whether the business can execute or finance the plan.
Internal rate of return (IRR) is the rate at which NPV equals zero
Solving for the rate that sets NPV to zero gives an IRR of approximately 23.78% annually. It exceeds the 9.12% hurdle in our base case. The cash pattern here is conventional: an initial outflow followed only by positive receipts. That pattern makes the interpretation more straightforward than projects with repeated changes in cash-flow signs.
The 23.78% is not a sales margin and is not a guaranteed realized return. Change the forecast and the IRR changes. Some cash patterns can produce multiple IRRs or no useful solution. Reporting a single spreadsheet percentage without examining the signs and timing can conceal rather than clarify the economic choice.
When only one of several projects can be chosen, a higher IRR may belong to a smaller project or one returning money sooner. It does not necessarily create more value in baht. Compare NPVs on an appropriate basis and consider capital, timing, and capacity constraints. A ranking rule detached from the decision being made can select the wrong alternative.
- At a 9.12% discount rateNPV +290.58
- Where NPV equals zeroIRR 23.78%
Payback asks when the original outlay is recovered
Receipts at the ends of years one and two total THB 900,000, still below the THB 1,000,000 investment. Recovery occurs when year-three cash arrives. Because this exercise explicitly assumes year-end payments, the answer is the end of year three. Interpolating a fractional year would introduce a new within-year cash-timing assumption.
With a separate assumption that operating cash of THB 450,000 arrives uniformly during each year, interpolation would give 2 + 100,000/450,000, approximately 2.22 years. The THB 200,000 working-capital release still occurs at year-end. Dividing the remaining THB 100,000 by THB 650,000 would incorrectly spread that terminal release across the year.
A short payback can help managers understand the duration of capital exposure. Ordinary payback ignores the time value of money and does not measure all cash after recovery. It therefore cannot replace NPV. Two projects can recover their cost on the same date while creating very different value over their remaining lives.
Test the interpretation before presenting the number
Exercise: if the initial investment increases while future receipts stay unchanged, should NPV rise or fall? It falls by the added time-zero expenditure. IRR must be recalculated rather than left at 23.78%. This simple directional check is useful for catching a spreadsheet referencing the wrong investment cell even before the detailed formula is reviewed.
If NPV is positive but the company cannot fund today’s outlay, separate economic attractiveness from financing feasibility. If another project needs the same staff, compare feasible alternatives rather than assume both can proceed. Approval should explain the selected option, the funding path, and the conditions that would cause management to revisit the decision.
A useful proposal includes the timeline, cash-flow definition, rate, calculation, and reasons for the assumptions. It should also state what has not yet been verified. Episode 8 reduces operating cash and examines how the decision changes. That sensitivity is part of the investment case, rather than an optional appendix shown only when the base-case answer is disappointing.