¶ … Value (NPV) Process for a Company's Human Resource Program Investments
Company Memo
Re: Instructional Document: Evaluating Needs Present Value (NPV) process for HR Resource program's investments
We have implemented a new Needs Present Value analysis process that will be used on all current and future HR projects as of Thursday, 12/25/2003. Please become familiar with the NPV pamphlets provided and if you have additional questions, contact me at extension 9999.
NPV is an approach used in capital budgeting where the present value of cash inflow is subtracted from the present value of cash outflows. If the NPV of a prospective project is positive, then it should be accepted. However, if it is negative, then the project probably should be rejected because cash flows are negative.
Simple Example:
The changing value of money over time is easily seen in the classic bank savings account.
If someone deposits $100 in a bank paying 10% interest per year, after one year the $100 starting amount increases $10 to a total of $110. If the money is left in the account for another year and the interest rate remains at 10%, the account increases by more because the entire $110 balance earns the 10% increase. The gain of $11 during the second year results in a new balance of $100 + $10 + $11 or $121
To calculate how big the account would grow after several years, use the equation
PV (1+r) t = FV
Where PV is the present (or starting) value of the money, r is the interest rate, t is the time in years, and FV is the future value at the end of t years.
100 (1.10)4 = $100 1.4641 = $146.41
In the savings account example, if one wanted to determine how much money the $100 would grow to after four years at the interest rate of 10%, PV would be $100, 1+r would be 1 + 0.10, and t would be 4.
All new salary adjustments will be first run through the NPV analyses to see if the raises can be justified. Please take precautions when implementing any new NPV analysis. The NPV does have limitations. This or any analysis tool is only as good as the assumptions we make. Thus, we must be use a team approach when ever making guesstimates of the costs and/or potential benefits of a proposal. The finance department has tools available for hypothesis testing.
