Net present value (NPV)

Definition

Net present value (NPV) is a financial metric used to evaluate the profitability of an investment or project.

What is net present value?

It represents the difference between the present value of cash inflows and the present value of cash outflows over a specified period of time. NPV is a crucial tool for decision-making in finance and investment, as it helps determine whether an investment is likely to generate a positive return.

Components of net present value:

  1. Cash flows: NPV considers all cash inflows and outflows associated with an investment, taking into account the timing of these cash flows.
  2. Discount rate: The discount rate is a critical component as it accounts for the time value of money. It reflects the opportunity cost of capital and adjusts future cash flows to their present value.

A positive NPV indicates that an investment is expected to generate more cash inflows than outflows, suggesting that it is potentially profitable. A negative NPV indicates that the investment is expected to result in a net loss. In general, investments with negative NPVs are not considered financially viable. 

NPV allows for the comparison of different investment opportunities. The option with the highest NPV is generally the most financially attractive.

Choosing the appropriate discount rate is crucial. It should reflect the opportunity cost of capital and the specific risks associated with the investment.

NPV analysis may not capture all uncertainties or unexpected events. Sensitivity analysis or scenario modelling can help address some of these concerns.

Example of net present value

Let’s consider a real estate development project. The initial investment cost is $1,000,000, and the project is expected to generate cash flows of $200,000 annually for the next 10 years.

The net present value of this project would be calculated by discounting each cash flow back to its present value using an appropriate discount rate. If the NPV is positive, it indicates that the project is expected to generate returns higher than the cost of capital and is thus considered financially viable. If it’s negative, the project may not be economically feasible.

Ready to grow your business?

Clever finance tips and the latest news

Delivered to your inbox monthly

Join the 95,000+ businesses just like yours getting the Swoop newsletter.

Free. No spam. Opt out whenever you like.

Our offices:

Disclaimer: Swoop Finance Ltd (Swoop) helps US firms access business finance, working directly with businesses and their trusted advisors. We are a credit broker and do not provide loans or other finance products ourselves. All finance and quotes are subject to status and income. Applicants must be aged 18 and over and terms and conditions apply. Guarantees and Indemnities may be required. Swoop can introduce applicants to a number of providers based on the applicants’ circumstances and creditworthiness. Swoop may receive a commission or finder’s fee for effecting such introductions. If you feel you have a complaint, please read our complaints section highlighted above and also contained within our terms and conditions.
How Swoop makes money: In order to provide services free of charge, Swoop generates revenue through commission from companies featured on our platform. The commission we receive does not impact the cost of the product, service, or policy, and your payments remain unaffected by our commission structure.

© Swoop 2025

Looks like you're in . Go to our site to find relevant products for your country. Go to Swoop