Question

1.Should a residual asset value be included in investment cash flows if you can sell at the end of a project?

2. Can depreciation ever negatively impact a projects NPV?

Answer 1

1.

RESIDUAL VALUE

In capital budgeting projects, residual values reflect how much you can sell an asset for after the firm has finished using it or once the asset-generated cash flows can no longer be accurately predicted. For investments, the residual value is calculated as the difference between profits and the cost of capital. In accounting, owner's equity is the residual net assets after the deduction of liabilities. In the field of mathematics, specifically in regression analysis, the residual value is found by subtracting the predicted value from the observed or measured value.

Examples of Residual Value

If you lease a car for three years, its residual value is how much it is worth after three years. The residual value is determined by the bank that issues the lease, and it is based on past models and future predictions. Along with interest rate and tax, the residual value is an important factor in determining the car's monthly lease payments.

Additionally, consider the example of a business owner whose desk has a useful life of seven years. How much the desk is worth at the end of seven years (its fair market value as determined by agreement or appraisal) is its residual value, also known as salvage value. To manage asset-value risk, companies that have numerous expensive fixed assets, such as machine tools, vehicles, or medical equipment, may purchase residual value insurance to guarantee the value of properly maintained assets at the end of their useful lives.

2.

Depreciation is a common accounting concept that helps adjust the value of a deteriorating asset over time as it becomes less efficient. A business can depreciate an asset with an expected useful life of more than one year. Negative depreciation, on the other hand, accounts for the opposite process of an asset gaining value over time.

Depreciation gradually reduces the recorded value of an asset until it becomes worthless at the end of the useful life. In some cases, the asset retains some value at the end of its useful life.

Some projects do not decrease in value over time, so normal depreciation does not apply. If a business owns an project that lasts more than one year and goes up in value, it can account for the appreciation using the negative depreciation method. In contrast with depreciation, negative depreciation adds value over time.

therfore a negative depreciation will add value to the project , which means higher value of the investment which means HIGHER NPV