Equivalent Annual Annuity Calculator

Equivalent Annual Annuity Calculator
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Equivalent Annual Annuity Approach
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Equivalent Annual Annuity (EAA): An approach that helps you grow your business

Equivalent Annual Annuity Calculator. This image provides details of how to calculate the equivalent annual annuity using a calculator and notepad. By using the equivalent annual annuity formula, the Equivalent Annual Annuity Calculator provides a true calculation of the evaluation of projects that have unequal life spans.

Are you confused about choosing a project that will help you expand your business? The Equivalent Annual Annuity (EAA) calculator can help you choose a project that will be most beneficial for your business.

The equivalent annual annuity approach is used for evaluation of projects that have unequal life spans. In other words EAA compares financial efficiency of different projects that are expected to have different life spans. This evaluates the constant average cash flow of a project during its entire life cycle as if it were an annuity.

How to calculate EAA

Calculating EAA is a complex task since it includes the components that needs to be calculated before calculating the EAA. Thus, it is ideal to use this online calculator to do the calculations. Let's have a look at the details of the formula used in the calculations:

EAA = (r x NPV) / (1 - (1 + r)-n )

Where:

  • r = interest rate per period
  • n = number of periods
  • EAA = equivalent annual annuity
  • NPV = Net present value - This is the difference between the net present value of cash inflow and net outflows of the company over a certain time period, it is calculated on the basis of the following formula:
NPV = F / ( (1 + i)n )

Where:

  • PV = Present Value
  • F = Future payment (cash flow)
  • I = Discount rate (or interest rate)
  • n = the number of periods

If you would like to calculate the Net Present Value, use the NPV Calculator.

Using the EAA calculator for quick and accurate results

An EAA calculator can support your business in many ways as it is online and very easy to use. The Equivalent Annual Annuity Calculator requires just a few inputs and clicks to show you the important numbers. It can also help you make comparisons between various projects of your company. Comparison can also be made by other companies, given they belong to the same industry.

The EAA calculator by iCalculator has been designed in a way that will do the complex calculation with just a fraction of the effort. You are only required to input the following details to do the calculation:

  • Net Present value - Enter the net present value of the project (see detailed description under - how to calculate EAA)
  • Rate per period - Enter the expected rate of return of the project.
  • Number of periods - Enter the expected life span of the project.

Once you have added the necessary financial information the calculator will provide you with EAA of the project that can be compared with other projects, to choose the most profitable projects from the various projects that you undertake.

The advantages of using the EAA ratio

The prime advantage of EAA ratio is that it considers 'time value of money'. The time spent waiting for the money to be collected is the money wasted. This means that if you receive a payment today, you can reinvest it today, and start making profits immediately, rather than receiving the same amount on a later date.

Also the EAA method is easier to apply than other available methods. You do not need to lay out the complete cash flow timeline for the entire life span of mutually exclusive projects. You just require the NPV of each project to calculate the EAA.

It shows that the investment with shorter life span has more profits as well as they can be reinvested for making more profits. Let's take an example: Consider two projects one has a 3 years term and NPV of 100k and the second has a 5 years term and NPV of 120k both projects are discounted at the same 6% rate.

The EAA calculator reflects that: option 1 has EAA of 37,410.98, and option 2 has 28,487.57

Project 1 is therefore a better financial option.

That said, EAA also has a few disadvantages, these include:

  • The EAA disregards inflation and assumes that all the costs and cash flows related to the project will remain the same every time it's repeated.
  • It assumes that the projects can and will be repeated for an unlimited number of times, which does not seem practical. The company might change or opt for new, more profitable projects after the completion of one project. Also, equally profitable opportunities are unlikely.

Conclusion

Despite the disadvantages, the EAA is quite a useful tool when it comes to comparing mutually exclusive projects with different life spans. You just have to consider the limitations before using the calculator. The most important thing to note is that the project with highest EAA should be accepted.