Net Present Value (NPV) and Internal Rate of Rerturn (IRR) are quite similar financial expressions.
In fact the two share the same formula (same variables being measured), but use it to describe the present value of something from 2 different perspectives - (1) what is this project's expected future cashflow currently worth is today's dollars? vs. (2) how profitable (%-wise) will the return on project investment be based on (1)?
NPV = Net present value is today’s value of the expected future cash flows.
If NPV is positive, the project is estimated to be profitable
IRR = The expected rate of return from the proejct.
If the IRR of a project is higher than the WACC, the project is estimated to be profitable
The below simple spreadsheet area explains both concepts nicely. This project would generate a $3.7k profit (NPV) over 5yrs and have a significantly profitable 15.64% IRR, higher than the 8% WACC of the 20k invested.
The project's estimated cash inflows over 5 years would add value, on paper at least
References:
https://www.investopedia.com/ask/answers/032615/what-formula-calculating-net-present-value-npv.asp
https://www.youtube.com/watch?v=Fw5-wccViOM
https://www.youtube.com/watch?v=cSAfp6D28RM
No comments:
Post a Comment