Net Present Value Calculation Examples, Illustrations, Concepts, Sample Help Online

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Concept of Net Present Value Calculation Examples

Net Present Value basically means the difference between the present value of cash inflows and the present value of cash outflows. It is one of the most important measures used in capital budgeting as it considers the time value of money.

Net Present Value is calculated based on two factors

1. Equal cash flows in different periods
2. Different cash flows in different periods
When cash inflows are equal

NPV = R × (1 − (1 + i)-n)/i − Initial Investment
Where,
R is the net cash inflow expected to be received in each period;
i is the required rate of return per period;
n is the number of periods during which the project is expected to operate and generate cash inflows.

When cash inflows are different

NPV = (R1/ (1 + i)1 + R2/(1 + i)2 + R3/(1 + i)3) − Initial Investment

Where,
i is the target rate of return per period;
R1 is the net cash inflow during the first period;
R2 is the net cash inflow during the second period;
R3 is the net cash inflow during the third period

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Net Present Value Calculation Examples Explanation

Let’s understand the concept with help of an example

Example: let’s assume that Initial Investment = $243,000
Net Cash Inflow per Period = $50,000
Number of Periods = 12
Target return is 12%
Discount Rate per Period = 12% ÷ 12 = 1%
Net Present Value

= $50,000 × (1 − (1 + 1%)^-12) ÷ 1% − $243,000
= $50,000 × (1 − 1.01^-12) ÷ 0.01 − $243,000
≈ $50,000 × (1 − 0.887449) ÷ 0.01 − $243,000
≈ $50,000 × 0.112551 ÷ 0.01 − $243,000
≈ $50,000 × 11.2551 − $243,000
≈ $562,754 − $243,000
≈ $319,754

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Summary