NPV (Net Present Value) Concept

Net Present Value (NPV) has as goal to evaluate an investments’ project viability through the calculation of the current value of all its cash-flows (being for that an indicator a lot used in viability analysis studies).

By current value is understood today’s value of a certain amount to obtain in the future. Like any investment only generates cash-flow in the future, it’s necessary to update the value of each one of these cash-flows and compare them with the investment value. In case that the investment value is inferior to the current cash-flows values, NPV is positive which means that the project presents a positive profitability.

To update future cash-flows is used a rate called the discount rate. This discount rate isn’t more than a risk free interest rate (are normally used T-Bonds interest rates) plus a risk prize established for the type of project at stake.

 

Calculation formula:

 

CFi = Cash-flow in the year i; t = Discount rate

 

 

Translated from Portuguese by Susana Saraiva, Portuguese-English and English-Portuguese translation specialist. Contact: spams@sapo.pt.