How To Choose A Good Investment Venture!

Hi there!

I have a question for you readers out there. Have you been in a situation where you were presented with 2 different investment venture and you didn't know how to decide to choose the profitable one?

Well, hear this! Say that you have been asked to invest in a venture (Investment A) that provides you RM 3000 in 5 years and another (Investment B) promises to provide you RM5000 in 5 years. Your investment capital would be RM 100000. Outrightly, which one do you think majority of us will choose to invest in? Yes, you are right!! Many of us will choose Investment B venture as it provides a return of RM 5000 (a surplus of RM2000 compared to A).

For clarity, the data are tabulated in the table 1.1 above. Assume that the inflation rate is 4.0%.

Actually, the correct answer is the Investment venture A. Do not be decisive of the numerical figures shown in the table. There are 2 steps which you have to take before deriving to the decision.

Step 1:

Kindly refer to Diagram 1.1 hereafter.

The return given are future values in year 2010 and 2011 and because of the differences in the time we cannot assume that they carry the same value. Therefore, we need to bring forward that value to our current time. This applies to all the other return too! You should give importance to the effect of 4.0% inflation rate can do to the value of money over time!!

Okay, by dividing the return in Yr 2000 with (1+0.04) and then power it to the 'n' number of the year in which the return was given, you will get the present or current value of that RM 2000. Lost?? Let me simplify that.

Current value = Rm 2000/(1+0.04)power of 2

The current value of Rm 2000 given in Yr 2 is Rm 1849.11

Similarly, the current value of the return Rm1000 given in Yr 3 will be Rm 888.97

Then, we total up this 2 current value, we get Rm 2738.08

What do we do with this value? We compare this value to that of the current value off all the future values of returns in Investment B; see Step 2.

Step 2: Kindly refer to diagram 1.2 hereafter

Using the same method of finding the current value (CV) in Step 1, all the returns in investment B when converted to present value will be amounted to Rm 4243.63

Okay, now we compare how much value of CV in investment A has deteriorated in contrast to that of B.

In A, the value, Rm 2738.08/Rm 3000 = 91.26% is higher than of the B i.e., Rm4243.63/5000 = 84.87%.

Therefore, we can derive that investment venture A is more profitable than of B!!

Regards.