Net Present Value Calculator
A net present value (NPV) calculator can help you compare the current value of money with its future value. To determine net present value, all future payments are discounted in order to factor in the time value of money and the inherent risk that goes with an expectation of future streams of payment. In both corporate and personal financial considerations, the net present calculation can serve as a means for supporting investment choices. The higher the net present value, the more potential the investment opportunity might offer. Investment opportunities that show negative NPV should not be considered.
Net Present Value and the Time Value of Money
To really understand the power of the NPV calculation and assessment, you need to be familiar with a concept known as the time value of money. This concept is one of the cornerstones in both corporate and personal finance, stating simply that money that is immediately available to you is more valuable than that same amount of money in the future. The reason for this is that any money you have today provides you with the potential for earning capacity through investment or the paying off of debt. The key to understanding the time value of money is in seeing that a lump sum of money or future cash flows spaced evenly as payments to you can be converted to a present value. This same concept can be used to determine how money available to you today can grow to a higher value at a future date.
The Power of Compound Interest
Compound interest is a powerful force in finance that can lead to the creation of tremendous wealth and plays a significant role in the idea of the time value of money and the NPV calculation. When money is invested, the investor earns some percentage of interest in the first year. In the second year, interest is again earned on the original principle, but also on the interest that was accumulated in year one. This cycle repeats over time and as more time passes a greater amount of interest accumulates.
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The above information is educational and should not be interpreted as financial advice. For advice that is specific to your circumstances, you should consult a financial or tax advisor.
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