net present value (NPV)

  

Definition

The difference between the present value of the future cash flows from an investment and the amount of investment. Present value of the expected cash flows is computed by discounting them at the required rate of return.

For example, an investment of $1,000 today at 10 percent will yield $1,100 at the end of the year; therefore, the present value of $1,100 at the desired rate of return (10 percent) is $1,000. The amount of investment ($1,000 in this example) is deducted from this figure to arrive at net present value which here is zero ($1,000-$1,000). A zero net present value means the project repays original investment plus the required rate of return. A positive net present value means a better return, and a negative net present value means a worse return, than the return from zero net present value. It is one of the two discounted cash flow techniques (the other is internal rate of return) used in comparative appraisal of investment proposals where the flow of income varies over time.


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