Page 186 - Solid Waste Analysis and Minimization a Systems Approach

164 THE GENERAL APPROACH FOR A SOLID WASTE ASSESSMENT

profitability. If large capital expenditures are involved, it should be followed by a more
strenuous financial analysis such at the IRR and NPV.
The internal rate of return (IRR) and net present value (NPV) are both discounted
cash-flow techniques for determining profitability and determining if a waste mini-
mization alternative will improve the financial position of the company. Many organ-
izations use these methods for ranking capital projects that are competing for funds,
such as the case with the various waste minimization alternatives. Capital funding for
a project can depend on the ability of the project to generate positive cash flows
beyond the payback period to realize an acceptable return on investment. Both the IRR
and NPV recognize the time value of money by discounting the projected future net
cash flows to the present. For investments with a low level of risk, an after tax IRR of
12 percent to 15 percent is typically acceptable.
Each cash inflow/outflow is discounted back to its present value (PV). Then they are
summed. The equation for NPV is

N
NPV = ∑ C t

t=0 (1 + r) t

where t = the time of the cash flow
N = the total time of the project
r = the discount rate (the rate of return that could be earned on an investment
in the financial markets with similar risk)
C = the net cash flow (the amount of cash) at time t (for educational purposes,
t
C is commonly placed to the left of the sum to emphasize its role as the
0
initial investment)

The IRR is a capital budgeting metric used by firms to decide whether they should
make investments. It is an indicator of the efficiency of an investment, as opposed to
NPV, which indicates value or magnitude. The IRR is the annualized effective com-
pounded return rate that can be earned on the invested capital; that is, the yield on the
investment.
A project is a good investment proposition if its IRR is greater than the rate of return
that could be earned by alternate investments (investing in other projects, buying
bonds, even putting the money in a bank account). Thus, the IRR should be compared
with any alternate costs of capital including an appropriate risk premium.
Mathematically the IRR is defined as any discount rate that results in a net present
value of zero for a series of cash flows. In general, if the IRR is greater than the pro-
ject’s cost of capital, or hurdle rate, the project will add value for the company. The
IRR is determined by calculating the interest rate (r) when NPV equals zero or the
equation and solving for r

N
NPV = ∑ C t = 0

t=0 (1 + r) t