Instruction

1

Suppose a small family company produces shelving for books. Expenditure for the month of January (excluding for balance) let it be 150 thousand earned for the same month let will be 250 thousand. Then the economic impact of furniture production in January will be 250 – 150 = 100 thousand.

Product in the value terms exceed costs – such economic effect is called a profit.

Product in the value terms exceed costs – such economic effect is called a profit.

2

Let now a small family business wanted to produce, in addition to shelving, built-in wardrobes. For this the company needs to buy the machines (250 thousand rubles), to purchase material (100 thousand) and hire another person (30 thousand rubles./month.) Accordingly, the amount of spending in the first month of implementation (February) will be 150 + 250 +100 + 30 = 530 thousand rubles. At the end of sales of new products total revenue increased by 70 thousand RUB. and made up 250 +70 = 320 thousand. Therefore, the economic effect of the activities for the month of February amounted to 320 – 530 = (–) 210 thousand RUB Costs exceeded the costs, so the economic effect is called loss.

3

Next month (March) the costs of the work amounted to, with regard to the maintenance of new equipment (30 thousand), additional materials (100 thousand) and salaries of new employee (30 thousand) 150 + 100 + 30 + 30 = 310 thousand RUB.

With the expansion of the range of sales increased and income was 410 thousand. Thus, economic efficiency March was 410 – 310 = 100 thousand rubles (again profit).

With the expansion of the range of sales increased and income was 410 thousand. Thus, economic efficiency March was 410 – 310 = 100 thousand rubles (again profit).

4

Suppose now that before the end of the calendar year, no new installations and extensions production is not provided. Calculate income and expenses for the year.

Income: 250 (January) + 320 (February) + 410 (March) + 410*9 (April to December) = 4.3 million RUB.

Costs: 150 + 530 + 310 + 310*9 = 3,78 million.

Income: 250 (January) + 320 (February) + 410 (March) + 410*9 (April to December) = 4.3 million RUB.

Costs: 150 + 530 + 310 + 310*9 = 3,78 million.

5

The annual economic effect is calculated by the formula:

Eg = DG – (NCRE * RG), where

Eg – the annual economic effect

DG – income for the year

RG – expenditures for the year

NCRE – normative coefficient of efficiency (quantity, equal to the ratio of profits to the cap attachment set for specific areas; typically 0.1–0.2, which corresponds to the payback period of capital investment 5-10 years).

For our family business let it be NCRE 0.12, then the annual economic effect will amount to: 4,3 – (0.12*3,78) = 3.85 million rubles, that is, the enterprise extremely profitable.

Eg = DG – (NCRE * RG), where

Eg – the annual economic effect

DG – income for the year

RG – expenditures for the year

NCRE – normative coefficient of efficiency (quantity, equal to the ratio of profits to the cap attachment set for specific areas; typically 0.1–0.2, which corresponds to the payback period of capital investment 5-10 years).

For our family business let it be NCRE 0.12, then the annual economic effect will amount to: 4,3 – (0.12*3,78) = 3.85 million rubles, that is, the enterprise extremely profitable.

# Advice 2 : How to determine the economic effect

Definition of economic

**effect**shows how profitable a company to carry out a particular activity. The indicators are measured by the difference of the income from the activities of the enterprise and the costs spent on its implementation. Identify the economic**effect**is important in the implementation of the investment project.Instruction

1

Choose a convenient financial method for calculating economic

**effect**: NPV (Net present value) – net present value (also called net present value), IRR (Internal rate of return – internal rate of return, Payback period – the payback period of the invested funds in the project.2

The formula for calculating NPV is given below:NPV = NCF1/(1+Re)+...+NCFi/(1+Re)I where

NCF (or FCF – free cash flow – net cash flow at the i-interval scheduling;

Re – discount rate.

NPV means given income, i.e. income from the project is given at this point in time, not future. If NPV is greater than zero, then the funds will certainly appear in the result of the project. Thus, the NPV shows the feasibility of implementing the particular activity. If NPV is less than zero, forget about this project, the profits it will bring.

NCF (or FCF – free cash flow – net cash flow at the i-interval scheduling;

Re – discount rate.

NPV means given income, i.e. income from the project is given at this point in time, not future. If NPV is greater than zero, then the funds will certainly appear in the result of the project. Thus, the NPV shows the feasibility of implementing the particular activity. If NPV is less than zero, forget about this project, the profits it will bring.

3

Internal rate (rate) of return (return on investment) (IRR) is an absolute value, in contrast to the NPV. The value of IRR is a measure of the discount rate at which NPV equals zero. Therefore, determine the internal rate of return at the rate of Bank interest, which the project does not get neither profit nor loss. For understanding of dependence of the NPV and IRR from the plot. In the figure, at low discount rate, the company gets profit, increasing the IRR, the profit of the company decreases.

4

Identify the payback period of invested money in the project (payback period). Analyze your project with an annual return of investment. The maximum payback period can be set by the enterprise, the main determine whether to return all the money spent on the project in time. Hoping one of these three indicators, you will not be able to fully determine the economic effect of the project, and only in the comparison of all indicators actually get the final conclusion on profit, profitability and the payback period of the project.

Note

Keep in mind that when calculating the NPV does not take account of the risks, therefore when comparing several projects using NPV, determine risks and make adjustments in order to identify all the projects that interest one that gives the most desired budget.

Useful advice

Using the absolute measure of IRR, rate the projects and compare them to each other. Due to the discount rate, are determined by the risks on the project and compares the profit with taking risks.