What are some examples of ROI and NPV?

What are some examples of ROI and NPV?

ROI (Return on Investment) measures the profitability of an investment, while NPV (Net Present Value) assesses the value of future cash flows. For example, if you invest $1,000 in a project that returns $1,200 after a year, the ROI is 20%. If the project generates cash flows of $300 annually for 5 years, and the discount rate is 5%, the NPV can be calculated to determine its worth today.

Can you explain how to calculate NPV?

Sure! To calculate NPV, you subtract the initial investment from the present value of future cash flows. The formula is: NPV = ∑ (Cash Flow / (1 + r)^t) - Initial Investment, where 'r' is the discount rate and 't' is the time period.

What discount rate should I use?

The discount rate often reflects the cost of capital or the required rate of return. It can vary based on the risk of the investment and market conditions. A common approach is to use the weighted average cost of capital (WACC) for your business.

Can you give me a real-world example of NPV?

Absolutely! Suppose a company is considering a new project that requires a $10,000 investment. It expects to generate $3,000 annually for 4 years. If the discount rate is 8%, you would calculate the present value of each cash flow and subtract the initial investment to find the NPV.