Investors Expect Additional Calculations

Chapter 22: Getting Financed - Page 22.11

Investors Expect Additional Calculations

You Should Estimate Investor's Net Present Value (NPV)

The Net Present Value (NPV) is a measure of the present value of future cash. To calculate NPV you discount future money at some assumed discount rate. In the following illustration you can see two sample investments, both with the same NPV, although very different cash flows. Both are discounted at 10% for calculating NPV.

Calculating Net Present Value (NPV)

You can calculate NPV in a spreadsheet. Most spreadsheets have an NPV function (this one from Business Plan Pro®).

In the illustration, the selected cell has an automatic function for calculating NPV based on defined discount rate and cash flows. Both of the investments have NPV of $766, even though one pays regular annual payments of $750, and the other pays nothing until a large payment at the end. Notice how the time value of money changes. The total payout of the first investment is less than that of the second, but because the first one's payout starts sooner, they both have equal NPV.

For more background on how the discounting calculation can be done manually, you should consult a finance textbook or search the Web for the term "net present value." The best option is to build an NPV analysis into an Investment Analysis prepared especially for the investors.

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