company will save $30,000 during the first year of operation. For the next four years, the savings
will be $20,000 per year. Assuming a 12 percent discount rate, what is the NPV of the system?
An NPV analysis follows:
Project Assignment 2: Net Present Value Analysis
Information System Benefits and Costs:
Year 0 Year 1 Year 2 Year 3 Year 4 Year 5 Total
Benefits -
30,000
20,000
20,000
20,000
20,000
Factor (12%)
1.000
0.893
0.797
0.712
0.636
0.567
PV of
Benefits -
26,790
15,940
14,240
12,720
11,340 81,030
Costs
95,000
Factor (12%)
1.000
0.893
0.797
0.712
0.636
0.567
PV of Costs
95,000 - - - - - 95,000
Net Present
Value: (13,970)
Notice that the NPV is a negative 13,970. In this example, what looked like an attractive project
turned out not to be economically feasible. Why is this so? If no adjustment factor were used, the
total benefits would exceed the total costs by $15,000. The primary reason for the negative outcome
is the time value of money. Students should recognize that the $95,000 in costs would have to be
spent up front, and paid for with today’s dollars. The benefits, on the other hand, would not be
realized immediately and were worth less in terms of today’s dollars. This is a good example of the
importance of NPV analysis.