Calculating NPV

An investment in a new project is tricky business, not only because of entering into a new field but also because presumptions are to be made in the present for the returns that will be generated in future. The commitment in financial terms has to be done now based on the assumptions that it will reap good dividends and returns in some time in the future. Since these returns are expected in the future, a discounted value is calculated through various methods, and net present value is one method used to calculate this. Net Present Value or NPV can be defined as the integration of the present values (cashflows) with the addition of all the related cash inflows as well as cash outflows. It is derived to give a better perspective on the investment decision to be made with respect to a particular project.

Net present value finds relevance in most considerations for the calculation of an appropriate return on the investment over a period of time because it takes into account all the cash flow expected (both inflow and outflow) and gives a meaningful interpretation and an intelligent guess as to what returns could be expected.

If the amount of capital invested in the project is for a span of "n" years then this is partially accounted for in the input. An approach to calculating net present value could be through analyzing the present values of the net revenues which is more or less the value derived after taking out the invested part from the revenues earned. The mathematical presentation of the net present value could be summed as below:

NPV = S + { Cash flow for t year / (1+ R)^t } + { cashflow for n year /(1 + R)^n }

Here
"S" denotes initial investment made by the investor in the project,
"t" denotes the particular year and the cashflow of that particular year,
"R" denotes rate of return and can be defined as the entity or value of returns expected if the same amount of investment is done in various other projects for the same period of time.
"n" denotes the number of years for which the net present value is to be calculated.

The above stated formula can be interpreted as the summation of cash flows divided by the rate of return of that year and integrated with the initial investment. This formula repeats itself for the number of years for which this has to be calculated. It is the value or the remainders of the value after the benefits are subtracted and all the costs incurred during that period of time have been accounted for. The remainder of the value which is the net present value is described or denoted in the currency form and not in percentage form as is the case of the internal rate of return method. The method of calculating returns through net present value is detailed, and hence gives more information on a yearly basis and is considered the better method for investors to analyze how to invest their money in a more detailed form.