![]() Net present value has three potential outcomes: For example, if a project costs $5 million at the start, that should be subtracted from the total discounted cash flows. The initial investment is how much the project or investment costs upfront. Additionally, interest rates and inflation affect how much $1 is worth, so discounting future cash flows to the present value allows us to analyze and compare investment options more accurately. For example, $10 today is worth more than $10 a year from now because you can invest the money received now to earn interest over that year. ![]() ![]() This concept is the belief that money today is worth more than money received at a later date. A company’s WACC is how much money it needs to make to justify the cost of operating and includes things like the company’s interest rate, loan payments, and dividend payments.Ĭash flows need to be discounted because of a concept called the time value of money. In most situations, the discount rate is the company’s weighted average cost of capital (WACC). However, different projects, companies, and investments may have more explicit timeframes. Sometimes, the number of periods will default to 10, or 10 years, since that is the average lifespan of a business. The number of periods equals how many months or years the project or investment will last. Each period’s cash flow includes both outflows for expenses and inflows for profits, revenue, or dividends. Sign up for free Components of NPV Cash FlowĬash flows are any money spent or earned for the sake of the investment, including things like capital expenditures, interest, and loan payments.
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