Net Present Value (NPV)
The value, in the present, of an investment or financial transaction that will pay-off in the future, minus the cost of the investment up until the time of that pay-off. NPV represents the profit or loss, in present worth, of future transactions so they are comparable against other investments. NPV is usually calculated by adding the present value of future cash flows, residual values, and interest, minus investment costs, opportunity costs, and future expenses. NPV is dependent on the value of the discount rate used to calculate these costs since this is used to calculate values over time.
NPV = [future value of investment / (1 + discount rate) ^ number of years] – value of initial investment
NPV is used to compare the value of potential investments in order to pick the one with the highest return or highest “opportunity cost of capital” (which includes, sometimes, not investing in a project at all but to keep funds in financial investments).
However, these costs don’t, traditionally take into account non-financial issues, such as the environment, employee benefits, community improvement, customer relationship, good will, or other social factors that might have value that outweighs a purely financial comparison.