_{}calculation of discounted cash flows.

_{}next step is to apply some economic criteria for evaluating

_{}project. We will use three criteria: Net Present Value, Modified Internal Rate of Return, and Discounted Payback Period.

### Net Present Value

_{}first criterion we will use to evaluate capital projects is Net Present Value. Net Present Value (NPV) is

_{}total net present value of

_{}organization if we invest in this project. We can refer back to our previous example and calculate Net Present Value.

If

_{}Net Present Value is positive, we should proceed and make

_{}case in Example 10), then we would not make

### Modified Internal Rate of Return

Besides determining_{}Net Present Value of a project, we can calculate

_{}Internal Rate of Return. Internal Rate of Return (IRR) is one of

_{}most popular economic criteria for evaluating capital projects since managers can identify with rates of return. Internal Rate of Return is calculating by finding

_{}Net Investment amount equals

If

_{}Internal Rate of Return were higher than our cost of capital, then we would accept this project. In our example,

_{}IRR (6.43%) is less than our cost of capital (12%). Therefore, we would not invest in this project. One of

_{}problems with IRR is

_{}assumption that every year you will be able to earn

In order to eliminate

_{}Internal Rate of Return so that

_{}reinvestment rate is our cost of capital. This will give us a more accurate IRR for our project. Fortunately, we can use spreadsheets like Microsoft Excel to calculate Modified Internal Rate of Return.

### Discounted Payback Period

_{}final economic criteria we will use is

$ 24,100 / $ 5,788 = 4.2 years

However, this method does not recognize

_{}time value of money and as we previously indicated, we must consider

_{}time value of money because of inflation, uncertainty, and opportunity costs. Therefore, we will use

_{}payback period (discounted payback period).

Under

_{}Discounted Payback Period, we would never receive a payback on our project; i.e.

_{}total to date present cash flows never reached $ 24,100 (net investment). If we had relied on

_{}fourth year.

In summary, we use economic criteria that have realistic economic assumptions about capital investments. Three economic criteria that meet this test are:

- Net Present Value
- Modified Internal Rate of Return
- Discounted Payback Period

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