The difference between the present value of future cash inflows and the initial investment, used to evaluate the profitability of a project.
Net Present Value is the gold standard for capital budgeting decisions. It discounts all future cash flows to their present value using a required rate of return (usually WACC), then subtracts the initial investment. A positive NPV means the project creates value above the required return — accept it. A negative NPV means it destroys value — reject it. NPV accounts for the time value of money (₹1 today is worth more than ₹1 tomorrow), making it superior to simple payback period calculations. When comparing mutually exclusive projects, choose the one with the highest NPV.
Project costs ₹10,00,000 upfront. Expected cash flows: Year 1: ₹4,00,000, Year 2: ₹4,00,000, Year 3: ₹5,00,000. Discount rate: 12%. NPV = 4,00,000/1.12 + 4,00,000/1.2544 + 5,00,000/1.4049 – 10,00,000 = 3,57,143 + 3,18,878 + 3,55,890 – 10,00,000 = +₹31,911. Positive NPV → Project is profitable, accept it.
Ensures accurate financial reporting and record-keeping
Helps maintain regulatory and tax compliance
Enables better-informed business decisions
Improves operational efficiency and cash flow management
Use the company's Weighted Average Cost of Capital (WACC) for projects with similar risk to existing operations. For riskier projects, add a risk premium (WACC + 2–5%). For very safe projects (like cost reduction), you might use a lower rate. The key principle: the discount rate should reflect the risk of the specific project's cash flows.
1) Highly sensitive to discount rate assumptions (small changes in rate significantly change NPV), 2) Requires accurate cash flow forecasts (garbage in = garbage out), 3) Doesn't show percentage return (a ₹100 crore project with ₹5L NPV vs a ₹10L project with ₹5L NPV — use IRR alongside), 4) Assumes cash flows can be reinvested at the discount rate.
A financial metric that measures the profitability of an investment by comparing the net profit to the cost of the investment, expressed as a percentage.
The minimum rate of return a company must earn on its investments to satisfy its debt holders and equity shareholders.
The point at which a business's total revenue equals total costs, resulting in neither profit nor loss.
Interest calculated on both the initial principal and the accumulated interest from previous periods — 'interest on interest'.
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