{"id":3090,"date":"2021-06-24T16:36:07","date_gmt":"2021-06-24T20:36:07","guid":{"rendered":"https:\/\/pressbooks.bccampus.ca\/businessmathematics\/?post_type=chapter&p=3090"},"modified":"2025-06-04T12:48:39","modified_gmt":"2025-06-04T16:48:39","slug":"3090","status":"publish","type":"chapter","link":"https:\/\/pressbooks.bccampus.ca\/businessmathematics\/chapter\/3090\/","title":{"raw":"6.1 Evaluating a Business Plan","rendered":"6.1 Evaluating a Business Plan"},"content":{"raw":"We will start with a motivating example.\r\n

Example 6.1.1<\/h2>\r\nSuppose a business plan would require an investment of $20,000 now and would result in cash flows of $13,000 in one year and $8,000 in two years.\r\n\r\n[caption id=\"attachment_363\" align=\"aligncenter\" width=\"300\"]\"Cash Cash Flow Diagram[\/caption]\r\n\r\n \r\n\r\nThen, if you ignore (just for a moment!) the time value of money, you can see that:\r\n\r\n[latex]\\begin{align*}\r\n\r\nProfit &=Revenue- Expense\\\\\r\n&=\\$21,000 -\\$20,000\\\\\r\n\r\n&=\\$1,000\r\n\r\n\\end{align*}[\/latex]\r\n\r\n \r\n\r\nshowing a positive profit.\r\n\r\n \r\n
\r\n

Key Takeaways<\/p>\r\n\r\n<\/header>\r\n

\r\n\r\nA positive profit is a minimum requirement for a successful investment. <\/em>No company would choose investments which they expect to result in a loss.\r\n\r\n<\/div>\r\n<\/div>\r\n \r\n\r\nBeyond this the question is: How can we decide whether this investment is preferable to others?\r\n\r\nSuppose that an alternative investment was to place the money in a trust account which would pay 6% effective over the two-year period, and from which withdrawals could be made at any time.\r\n\r\nThen, if you try to match the sequence of cash flows you would have:\r\n\r\n\r\n\r\n\r\n\r\n\r\n\r\n
Time<\/strong><\/td>\r\nInterest<\/strong><\/td>\r\nCredit<\/strong><\/td>\r\nDebit<\/strong><\/td>\r\nBalance<\/strong><\/td>\r\n<\/tr>\r\n<\/thead>\r\n
0<\/td>\r\n<\/td>\r\n$20,000.00<\/td>\r\n$0.00<\/td>\r\n$20,000.00<\/td>\r\n<\/tr>\r\n
1<\/td>\r\n$1,200.00<\/td>\r\n<\/td>\r\n13,000.00<\/td>\r\n8,200.00<\/td>\r\n<\/tr>\r\n
2<\/td>\r\n492.00<\/td>\r\n<\/td>\r\n8,000.00<\/td>\r\n692.00<\/td>\r\n<\/tr>\r\n<\/tbody>\r\n<\/table>\r\n \r\n\r\n \r\n\r\nThe final balance of $692.00 shows that in the account we could have withdrawn a total payment of $8,692 at the end of the second year, which is more than the original investment would allow; hence, the trust company account would be a better investment. The first investment made money, but not fast enough<\/strong> to earn 6% effective.\r\n\r\n \r\n

Your Own Notes<\/h2>\r\n
    \r\n \t
  • Are there any notes you want to take from this section? Is there anything you'd like to copy and paste below?<\/li>\r\n \t
  • These notes are for you only (they will not be stored anywhere)<\/li>\r\n \t
  • Make sure to download them at the end to use as a reference<\/li>\r\n<\/ul>\r\n[h5p id=\"1\"]","rendered":"

    We will start with a motivating example.<\/p>\n

    Example 6.1.1<\/h2>\n

    Suppose a business plan would require an investment of $20,000 now and would result in cash flows of $13,000 in one year and $8,000 in two years.<\/p>\n

    \"Cash
    Cash Flow Diagram<\/figcaption><\/figure>\n

     <\/p>\n

    Then, if you ignore (just for a moment!) the time value of money, you can see that:<\/p>\n

    [latex]\\begin{align*} Profit &=Revenue- Expense\\\\ &=\\$21,000 -\\$20,000\\\\ &=\\$1,000 \\end{align*}[\/latex]<\/p>\n

     <\/p>\n

    showing a positive profit.<\/p>\n

     <\/p>\n

    \n
    \n

    Key Takeaways<\/p>\n<\/header>\n

    \n

    A positive profit is a minimum requirement for a successful investment. <\/em>No company would choose investments which they expect to result in a loss.<\/p>\n<\/div>\n<\/div>\n

     <\/p>\n

    Beyond this the question is: How can we decide whether this investment is preferable to others?<\/p>\n

    Suppose that an alternative investment was to place the money in a trust account which would pay 6% effective over the two-year period, and from which withdrawals could be made at any time.<\/p>\n

    Then, if you try to match the sequence of cash flows you would have:<\/p>\n\n\n\n\n\n\n\n
    Time<\/strong><\/td>\nInterest<\/strong><\/td>\nCredit<\/strong><\/td>\nDebit<\/strong><\/td>\nBalance<\/strong><\/td>\n<\/tr>\n<\/thead>\n
    0<\/td>\n<\/td>\n$20,000.00<\/td>\n$0.00<\/td>\n$20,000.00<\/td>\n<\/tr>\n
    1<\/td>\n$1,200.00<\/td>\n<\/td>\n13,000.00<\/td>\n8,200.00<\/td>\n<\/tr>\n
    2<\/td>\n492.00<\/td>\n<\/td>\n8,000.00<\/td>\n692.00<\/td>\n<\/tr>\n<\/tbody>\n<\/table>\n

     <\/p>\n

     <\/p>\n

    The final balance of $692.00 shows that in the account we could have withdrawn a total payment of $8,692 at the end of the second year, which is more than the original investment would allow; hence, the trust company account would be a better investment. The first investment made money, but not fast enough<\/strong> to earn 6% effective.<\/p>\n

     <\/p>\n

    Your Own Notes<\/h2>\n
      \n
    • Are there any notes you want to take from this section? Is there anything you’d like to copy and paste below?<\/li>\n
    • These notes are for you only (they will not be stored anywhere)<\/li>\n
    • Make sure to download them at the end to use as a reference<\/li>\n<\/ul>\n
      \n