Net Present Value (NPV)

Definition

Net Present Value (NPV) is a financial metric. It is the difference between the present value (PV) of a stream of cash inflows and outflows expected from a project in the future.This concept is widely used to estimate the profitability of a potential project or investment and thereby acts as a guide for investing decisions.

Example

For instance, if an investor pays $50,000 for an investment that fetches a series of cash flows of an equal amount, then the NPV is $0. In an ideal scenario, a profitable investment costs the investor below $50,000 and fetches higher cash flows.

Why it matters

Net present value is used to determine the amount of money a project or investment will earn in today's value. Since future cash flow from an investment doesn’t match the current cash flow due to factors such as inflation, NPV helps adjust the value accordingly.With the help of NPV, a company's project managers can accurately predict the net return that an investment can earn. This will allow the company to make better investment decisions.

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