Assuming that all other factors are constant except one, the net present value of a capital expenditure increases when…?

Assuming that all other factors are constant except one, the net present value of a capital expenditure increases when…?
A . The initial cost of a project increases
B . The discounted rate increases
C . Net cash flow during a time period increases
D . Cash outflow during a time period increases

View Answer

Answer: C

Explanation:

Net present value (NPV) is the ‘today’ net value that deprives from ‘future’ cash flow of an invest-ment or a capital purchase.

The following formula is used to calculate NPV

Where:

Rt is the net cash flow (cash inflow – cash outflow) during the period t

i is the discount rate

t is the number of time periods

As you can conclude from the above formula, the net present value increases when the numerators (net cash flows) increase and/or denominators (1+i) decrease. So the correct answer should be "Net cash flow during a time period increases"

The purpose of this exercise is to help you identify the factors that influence the net present value and how to increase/decrease NPV in real-world scenario.

Reference:

– Net present value in capital expenditure

– CIPS study guide page 177

LO 3, AC 3.2