Project Selection – Net Present Value (NPV)

Net Present Value

Definition

Net Present Value (NPV) of the sum of all cash inflows (in Present Value) of the project minus the initial cost, i.e.  PV (benefits) – PV (costs) (Read more)

NPV is an effective tool to help determining whether a project will be profitable,

  • NPV > 0 – the project is profitable
  • NPV = 0 – the project will break even
  • NPV < 0 – the project will lose money

Sample Question

For the software project, $100,000 would be needed which is expected to generate a total of $200,000 (in present value) over 5 years. What is the Net Present Value (NPV) of the project?

A. $100,000
B. $200,000
C. $300,000
D. -$100,000

Solution: A

Since the Net Present Value (NPV) is the present value of all benefits minus all costs, i.e. NPV = $200,000 – $100,000 = $100,000.

Higher the better

The larger the Net Present Value (NPV), the more profitable the project is to the organization.

Check more articles on Cost Management

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