7.9c - Making Investment Decisions (NPV) Flashcards
1
Q
Net present value definition
A
An appraisal method based on the assumption that any money received by the business in the future would be worth less to the business than if it was paid today
2
Q
How will NPV be calculated?
A
By reducing the value of future receipts by a set discount rate
3
Q
Discount rate formula
A
(1 / 1+r)^n where r is the interest rate as a decimal, and n is the year
4
Q
What does it mean if the NPV is positive / negative?
A
- Positive means the investment is worthwhile
- Negative means that the business could get a better return by putting their money in a savings account
5
Q
Advantages of NPV:
A
- Takes account of time value of money
- Looks at cashflows throughout life of project
- Decision making mechanism
6
Q
Disadvantages of NPV:
A
- Difficult to select the most appropriate discount rate
- Sensitive to the initial investment cost
