FINS1613 Lecture Notes - Lecture 7: Net Present Value, Decision Rule, Cash Flow
Document Summary
Net present value: the differe(cid:374)(cid:272)e (cid:271)et(cid:449)ee(cid:374) prese(cid:374)t (cid:448)alue of a proje(cid:272)t/i(cid:374)(cid:448)est(cid:373)e(cid:374)t"s (cid:271)e(cid:374)efits and of its costs: an investment should be accepted if the npv is positive, i. e. equivalent to receiving the npv in cash today. Investment risk is captured by the discount rate. Investors require that high risk investments are discounted with a higher rate than low risk investments: npv typically decreases as discount rate increases. Mutually exclusive investments: a set of investments where taking one of them means we cannot take the others in the set. We choose the one with the highest npv. The problem with npv is that it requires knowing the discount rate, and the decision would only apply at the specified discount rate. Internal rate of return (irr): a discount rate that sets the npv to zero. There might be any number (including zero) of irrs. Irrs can be found by letting npv = 0 in a npv equation.
