Paper Topic:

NPV of long and short-term project

Running head : NPV OF LONG AND SHORT-TERM PROJECT

NPV of Long and Short-Term Project

Student Name

Institution 's Name NPV of long and short-term project Explain why the NPV of a relatively long-term project defined as one for which a high percentage of its cash flows are expected in the distant future , is more sensitive to changes in cost of capital than is the NPV of a short-term project

NPV is sensitive to the discount rate (or cost of capital ) more so for projects with higher proportion of cash flows at the

end of the project compared to a similar project with the same cash flows occurring earlier in the project lifecycle . This phenomenon is illustrated in the example below

Project A - (Short Term Project Cash Flows

Time Cash Flow RATE NPV

0 -100000 10 28 ,618 .26

1 100000 20 14 ,081 .79

2 40000

3 10000

Project A - (Long Term Project Cash Flows

Time Cash Flow RATE NPV

0 -100000 10 15 ,709 .31

1 10000 20 5 ,015 .43

2 40000

3 100000

The long term project is more sensitive to discount rate changes as a larger proportion of cash flows are discounted multiple times at the discount rate , reducing the overall NPV value . The cash flows generated from the project as assumed (by the NPV method ) to be re-invested at the discount rate . Higher cash flows earlier in the project 's life allow more re-investment income to be generated and thus higher NPV (McCrary...

2 pages

39.0 KB

Free sing-up