Net Present Value (NPV)
Bring cash flows from different years back to today before comparing them with the initial outlay.
Bring future money back to today
Can money received in different years be added as-is?
What did you just see?
The same amount received later is usually worth less than receiving it today.
Cash-flow timing and discount rate
Enter a positive initial investment; the tool records it as a time-zero outflow. Later rows are year-end cash flows and can be positive, negative, or zero. The is effective annual: enter 10 for 10%, while the formula uses 0.10. This page uses equally spaced years, not arbitrary cash-flow dates.
What has a positive NPV already allowed for?
Pay US$1,000 today and receive US$600 at each of the next two year-ends. At a risk-appropriate effective annual required return of 10%, NPV = −1,000 + 600/1.10 + 600/1.10² = US$41.32. Unlike the US$200 undiscounted surplus, this estimates value remaining today after allowing for the required compensation for time and risk.
At a 20% required return, the same payments give NPV US$-83.33. Receipts did not change; the opportunity-cost benchmark did. Match the discount rate to cash-flow risk, horizon and currency rather than choosing a rate to make a project pass.
Validate the cash flows before making a decision
Use future incremental cash flows rather than copying accounting earnings into the formula. Irrecoverable sunk costs do not change with the decision, whereas new equipment, working-capital commitments and final recoveries may matter. Match nominal cash flows with nominal discount rates and real flows with real rates.
With suitable risk, credible forecasts and no binding resource constraints, positive NPV indicates potential value creation. It remains sensitive to demand, costs, timing and the discount rate. Compare value for mutually exclusive projects; a capital budget may require evaluating feasible combinations instead of choosing the highest ratio.
Another example
- Enter an initial investment of 1,000; the tool treats it as a time-zero outflow.
- Enter 600 for year one and year two, then set the discount rate to 10%.
- NPV is about 41.32, leaving a positive modeled value after applying the 10% hurdle rate.
Show formal definition and formula
NPV discounts cash flows from different dates to today and sums them.
NPV is the sum of every cash flow from time zero onward, discounted to today.
Common mistakes
Do not omit the time-zero outlay or treat the discount rate as an observed certainty.
Frequently asked questions
How is the initial investment entered?
Enter a positive outlay; the calculator treats it as a negative cash flow at time zero.
What does the discount rate represent?
It represents a required return or opportunity cost, chosen by the user.
Does positive NPV mean I should invest?
Not necessarily. Forecasts and discount rates are uncertain, and other risks and constraints matter.
You can now explore…
- Why future cash flows are discounted
- How the discount rate changes NPV
Term reference3 terms
Open a term when you need a reminder. Underlined words in the article work too.