To assess a possible investment, we must take the time value of money
into account [3]. We could invest the f1,000 in risk-free state-bonds,
which are guaranteed to pay out a certain interest over the investment.
Suppose that this interest is 5%. The an investment of f1,000
in state bonds will grow to f1,000 × 1.05 = f1,050 after one
year.

Reasoning the other way around, we will have f1,000 in one year if
we invest f952.38 now in risk-free state bonds at 5% interest. We say
that the net present value of f1,000 next year is f952.38 now, or that
f1,000 next year is discounted to f952,38 now.

In general, the possession of fX n years from now, is worth fY now,
if we can make Y grow into X according to the best, risk-free
opportunity available to us now. Discounting a future amount X to its
current value Y incorporates our estimate of what is the best risk-free
opportunity available to us now.

As a consequence, the same amounts of money in different future
contract periods have a different discounted value today.

In realistic situations, many consecutive contract periods are needed
to earn back an investment. To assess the value of an investment and
compare it to a risk-free investment is state bonds, all money values in
these consecutive periods should be discounted to the same time period.
Usually this is period 0, the time at which the investment was
made.

To calculate the net discounted present cash for a series of time
periods, the following formula for Discounted Net Present Cash
(DNPC) Flow calculation can be used:

where p ranges over the time periods of the time series.

Using this formula for the investments, revenues, and expenses in
table 7.1, using an interest rate of 5 %, results in table 7.2. The net
revenue of f400 generated in each period is worth less the farther the
period lies in the future. The value of our investment is now only
f89.30.

Table 7.2:Calculation of discounted net present cash value over a series
of market scenarios using 5% interest