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The concept of present value is based on the concept of time value. Since money has time value, a rupee today is more valuable than a rupee after one year. In any investment or in any project, the net present value or NPV is one of the most important factors. You always need projects that give positive NPV as otherwise the project or investment is not viable in the first place.
In this segment we look at the net present value calculator or the NPV calculator online. The net present value calculator or the NPV calculator is a kind of software that enables you to estimate the net present value of the project or investment based on a hurdle rate or IRR as it is popularly known as. Here we look at the NPV calculator formula as well as the NPV calculator with steps in detail.
Before we understand NPV calculator or net present value calculator, let us first understand what is this
concept of NPV? To put in simple terms, the NPV or the Net Present Value is a simple tool that estimates
the difference between the present value of future cash flows and the amount of the current investment.
Let me explain. If you invest Rs.10 lakh, then the present value of the future returns should be more than
the current investment. Only then it has positive NPV. That is evidenced by the NPV calculator.
The present value of your expected future cash flow is derived by discounting these cash flows at a
specific hurdle rate of return, which is normally the cost of capital. NPV is most popular when you
evaluate mega infrastructure projects, mergers and acquisitions and all types of investments. When you put
the NPV as zero and calculate the implied yield of the cash flows, that figure is called the internal rate
of return or IRR
From the concept of the net present value or NPV we derive the idea of the NPV calculator or the net
present value calculator. The NPV calculator or the net present value calculator is a method of estimating
the NPV of a project based on future cash flows, initial investment and the hurdle rate. Once you feed in
this basic information, you get the NPV in a jiffy. Why is the NPV calculator so important. That is
because NPV lies at the core of any project analysis and therefore an in-depth understanding of this
concept helps you to make sound investment decisions. You can mathematically look at is as under.
It is a comprehensive evaluation technique as it takes into account the effect of time on the cash flows and also the cost of capital or the hurdle rate.
The NPV calculator helps you to calculate the NPV of a project or investment in quick time. But it is important to understand how the process flow of this NPV works. Let us put down some key points.
The NPV calculator helps you to decide if an investment or a project is worth it or not. The net present value is a pure financial metrics and you need to apply other non-financial parameters also before taking a final decision on the project. That is the gist of the NPV calculator.
Here are some of the popular uses of NPV as calculated by the NPV Calculator.
The formula of net present value or NPV can be summarized as under.
NPV = [Cn/(1+r)^n], where n={0-N}
In the above formula, let us look at the components.
Cn = Difference of cash flows
r = Discount rate or hurdle rate
n = Time in years
The final decision point is based on whether the NPV is positive or negative.
On paper, the project or investment with higher NPV is always better. Remember, there is also a risk aspect to it. Apart from the present value of future cash flows, you must also look at the probability and predictability of the future cash flows. More consistent, the better.
The discount rate which equates the NPV of a project or investment to zero is the internal rate of return or the IRR. This is also called the hurdle rate and one popular way of weighing investments is to also compare with benchmark IRR..
There is nothing like the ideal NPV. The condition is that NPV should be positive for the project to be justified and justifiable.
You need to estimate the discount rate or hurdle rate based on your cost of capital used to fund the project. For example, if you are funding the investment with a mid of equity and debt, then the weighted average cost of equity and debt will be your discount rate or hurdle rate.