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Accuracy of NPV Calculations
Accuracy of Net Present Value (NPV) Calculations
The accuracy and validity of Net Present Value (NPV) calculations has often led financial professionals to combine this measure of financial performance with others to gain greater insights into the strategic implications of decisions on projects. The fact that NPV alone cannot capture the variability of costs ands assumes linearity of costs and cash flows (Auguston, 1992). The best uses of NPV analysis are predicated on historical data where the linearity and predictive accuracy of cash flows can be achieved (Brush, 2003). Where there is a very high level of uncertainty in the financial figures or the broader business model, NPV figures are often inaccurate and only useful for showing directional, not precise, changes in the direction of investments (Phelan, 1997). With these foundational points of NPV in mind, the three businesses of a brand new retail startup, pharmaceutical company introducing...
are analyzed.
Accuracy of NPV Calculation Analysis
In assessing the accuracy of the three businesses, the underlying sources of cash flow projection and history need to be considered first. This, in addition to the structure of the business models and the ability of the founders and/or managers of the enterprise to accurately and completely control and predict costs. The longevity of the specific business model and its track record also must be taken into account, in addition to just hwo well understood the market dynamics are of the business itself (Auguston, 1992), The greater the level of uncertainty over a given product line or business model the less accurate NPV estimates will be (Phelan, 1997).
Starting with the brand new retail start-up, there will be significant costs associated with this business, and even greater costs of…
References
Auguston, K.A. (1992). Four steps to the right ROI. Modern Materials Handling, 47(7), 40-40.
Brush, B.C. (2003). The past as prologue: On the accuracy of using historical averages in discounting future lost earnings to present value. Journal of Legal Economics, 13(1), 81-107.
Phelan, S.E. (1997). Exposing the illusion of confidence in financial analysis. Management Decision, 35(2), 163-168.
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