Exam 2 Forest Economics

When is capital recovery formula used?

-Calculate a payment amount needed

-pay off a loan/original investment

-specified time period

How do you modify the capital recovery formula to use monthly payments?

All i values become i/m

all n values become nxm

When is sinking fund formula used?

-To accumulate a future amount

-In a specified amount of time

How do you modify the sinking fund formula to use monthly payments?

All i values become i/m

all n values become nxm

What do you do if there is a future amount to accumulate but there is already x amount of dollars in an account?

Subtract the x amount of dollars from the value needed before calculations

Capital recovery is doing what with interest?

Paying interest

Sinking fund is doing what with interest?

Earning interest

Many forestry decisions involve what?

Capital management

Forest is owned for?

Many objectives

Funds are spent to?

Maximize their objectives

How to invest funds?

Capital budgeting

-decision needs to be made about which is the best investment choice

Financial Criteria

-Net present value, equivalent annual income, rate of return, benefit to cost ration, land expectation value

Net present value (NPV)

NPV = Present value of revenues - Present value of costs

-NPV is a financial metric that seeks to capture the total value of a potential investment opportunity.

NPV more than 0

Accept because the investment generated profit in present value terms

NPV=0

Accept because the investment generated enough revenues to balance the costs in present value terms

NPV less than 0

Reject because the investment does not generate enough revenue to balance the costs in present value terms

Equivalent Annual Income (EAI)

-Also called AEV (Annual Equivalent Value)

-Used to compare investments with different time periods

EAI is more than 0

Accept because annual discounted revenues are greater than discounted rates

EAI is equal to 0

Accept because annual discounted revenues are equal to discounted costs

EAI is less than 0

Reject because the annual discounted rates are smaller than the discounted costs

Benefit to cost ratio

PVR/PVC

unitless

BC is more than 1

Accept because discounted R are grater than discounted C.

Every $ invested generated more than one dollar in return

BC is equal to 1

Accept because discounted R are equal to discounted C

Every $ invested generated one dollar back

BC is less than 1

Reject because discounted R are less than discounted C

Every dollar invested generates less than one dollar in return

Rate of Return

discount rate when NPV is 0

-also called internal rate of return (IRR) or break even discount rate

If you have more than 2 cash flows and information about MARR and NPV what formula should you use?

The IRR formula

What does Absolute difference between NPV mean?

Take the absolute value

(7+(-5)) or 7+5

ROR is more the MARR

Accept because rate of return on investment is

greater than a minimum acceptable rate of return

(MARR) required by a forest landowner

ROR is equal to MARR

Accept because rate of return on this investment is

equal to a minimum acceptable rate of return

(MARR) required by a forest landowner

ROR is less than MARR

Reject because rate of return on this investment is smaller than a minimum acceptable rate of return (MARR) required by a forest landowner

Land Expectation Value (LEV)

-Also known as Soil Expectation Value (SEV), Willingness to Pay for Bare Land, Maximum bid price, bare land value (BLV)

-Estimate of the value of tract of land for growing timber

-LEV is calculated for an infinite number of rotations

What does LEV represent?

Maximum amount of money that can be paid for bare land at a given minimum acceptable rate of return (MARR) and assuming that timber production on this land will be continued in perpetuity.

LEV assumptions

-All costs and revenues will occur in perpetuity (forever) with the same timing and magnitude

-Land will be used for timber production in perpetuity

Do you use NPV or NFV to calculate LEV?

You can use either one