- Project plans
- Project activities
- Legislation and standards
- Industry context
Last edited 26 Jun 2018
Net Present Value
NRM3: Order of cost estimating and cost planning for building maintenance works, defines 'present value' as '...the cost or benefit in the future discounted back to some base date, usually the present day, at a given compound interest rate'.
The term ‘Net Present Value’ (NPV) represents the difference between the present value of cash inflows and the present value of cash outflows for an investment. It is used when considering capital investments to assess profitability.
For an investment to be worthwhile it has to yield a positive NPV, meaning that profit will be generated over time as a result of the investment. A negative NPV indicates that the investment is likely to lose money. Like any other business investment, property development will aim to yield a positive NPV that is greater than would have been achieved if capital was invested elsewhere.
NRM3 suggests that:
|NPV is a standard measure in LCC (life cycle cost) analyses, used to determine and compare the cost effectiveness of proposed solutions. It can be applied across the full range of construction investments, covering whole investment programmes, assets, systems, components and operating and maintenance models.The costs and revenues/benefits to be included in each analysis are defined according to its objectives. For example, revenues from recycling of materials or from surplus energy generation are typically included in LCC analysis of alternative sustainability options.|
The formula for calculating NPV is as follows:
- Ct = net cash inflow during the period ‘t’
- Co = total initial investment costs
- r = discount rate
- t = number of time periods
A construction project has initial costs of £1.7m. It is expected to generate the following cash inflow:
- End of year 1 = £120,000.
- End of year 2 = £250,000.
- End of year 3 = £550,000.
- End of year 4 = £1.3m.
NPV = Benefits – Costs
NPV = £2.22m – £1.7m
NPV = £520,000
Without discounting there is sufficient economic justification for the project to go ahead.
Discounting is a way of comparing the value of costs and benefits over different time periods relative to their present values. Money is worth less in the future than it is in the present because of its reduced capacity for generating a return, such as interest, and because of inflation. Discounting is a means of assessing how much less an amount is worth in the future than it is now.
(Y1) £114,285.70 + (Y2) £226,757.37 + (Y3) £475,110.68 + (Y4) £1,069,513.22
NPV = £1,885,666.97
NPV = 1,885,666.97 – £1.7m
NPV = £185,666.97
(Y1) £109,090.91 + (Y2) £206,611.57 + (Y3) £413,223.14 + (Y4) £887,917.49
NPV = £1,616,843.11
NPV = £1,616,843.11 – £1.7m
NPV = -£83,156.89
In this scenario there appears not to be economic justification for the project to go ahead.
As an analysis tool, NPV has a number of drawbacks:
- Estimated cash flows seldom match those experienced in practice.
- Given the incremental cost of capital required to fund a project, a simple discount rate may not adequately represent the situation.
- Adjustments to take account of risks will only be very rough estimate estimates.
- NPV analysis only considers the circumstances of a specific investment.
 Related articles on Designing Buildings Wiki
- Base year.
- Business plan.
- Capital allowances.
- Capital costs for construction projects.
- Cash flow.
- Compound Annual Growth Rate (CAGR).
- Cost performance index (CPI).
- Cost-benefit analysis in construction.
- Development appraisal.
- Discount rate.
- Discounted cash flow.
- Gross value added (GVA).
- Internal rate of return for property development.
- Net benefits.
- Net savings.
- Life cycle assessment.
- Life Cycle Costing BG67 2016.
- Time value of money.
- Whole life costs.
 External references
Featured articles and news
Which room is the most fun to design? Find out the 'Grand Designs' presenter's unusual choice in our interview.
Full suite of speakers are announced for this year's BSRIA Briefing event.
Book your place for the Architectural Technology Awards 2018.
There are many ways of classifying types of building. Have a look at our range of building articles.
BSRIA have launched the 'major update' of the go-to design framework guide for building services.
How to get results with building life cycle assessment.
Government publishes a prospectus inviting proposals for new 'garden communities'.
The Morandi motorway bridge in Genoa collapses during rainstorm while undergoing maintenance works.
'Developed design' is a phrase coined by the RIBA for their 2013 Plan of Work. But what does it actually mean?
New green paper published aiming to rebalance the relationship between landlords and residents and tackle stigma.
RIBA calls for a comprehensive ban on combustible materials.