Missed Interest in NPV

Net Present Value (NPV)
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Nishad
Student (University), Sri Lanka

Missed Interest in NPV

(How) Can I include interest income forgone in an NPV calculation?

  Jaap de Jonge
Editor, Netherlands
 

Interest Income Forgone

Hi Nishad, if you invest in some project or whatever, you need to spend money.
You cannot use this money for something else during the project, and you miss the interest you would have received if you would have put the money on a bank during the project. Also there is a risk that you may not receive your money back. All these costs together are called "cost of capital".
You have to compensate in your NPV calculation for these cost of capital. How?
As you can see in our summary of net present value, each year you EITHER have to substract them from the free cash flows that result from the investment, OR discount for the cost of capital by applying a discount rate for it.
Hope this helps.

 

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