Perpetuity growth rate and investment cost

Question

Should we calculate the NVP only to estimate profit on a Y+1 or Y+2 horizon?

If yes, should we always take into account the profit growth rate like here?

Is the investment cost considered as a fixed cost in the Y+1 profit calculation?

Answer 1

Hi there,

A few key things to remember here:

NPV - Perpetuity: You should calculate perpituity when you expect to hold an asset into the forseable future…as in, cash flows are expected “forever”

NPV - Annuity: You should calculate Annuity only when there are a set number of years in which you expect to hold the asset (or generate returns from it)…as in, cash flows are expected for x number of years

Growth rate - For both NPV Perpetuity and Annuity, you only include growth rate if the cash flows themselves are growing. The rate at which cash flows are growing is the rate you need to incorporate in your calcs.

Investment Cost - Fixed costs and investment costs are not the same thing. Fixed costs occur every year (so, calculate perpetuity). Investment costs are upfront costs. So, they generally only occur in year 1 (though realistically they can be across multiple years). They are a one-off, not recurring.