Definition
NPV is the core decision metric in capital budgeting. A positive NPV means the investment creates value above the required return rate. Projects with higher NPV should be preferred. NPV directly accounts for the time value of money and the opportunity cost of capital, making it theoretically superior to IRR for most investment decisions.
functions Formula
NPV = Σ(Cash Flow_t / (1+r)^t) − Initial Investment
lightbulb Example
Invest $100K with expected cash flows of $30K annually for 5 years, discount rate 8%. NPV = $30K × [1-(1.08)^-5]/0.08 - $100K = $119.8K - $100K = $19.8K. Positive NPV—accept the project.
verified_user Key Points
- Positive NPV = value-creating investment
- Theoretically superior to IRR for ranking projects
- Accounts for time value of money
- Sensitive to discount rate selection