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Cal ahan
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Certainty equivalent method
Cal ahan
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First tough question
Putting a price on Boomers, Busters, and Bogglers
Cal ahan
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Second tough question
Suppose we want to value a project:
Assume we have no trouble estimating the expected
cash flows.
r
is a riskadjusted discount rate (RADR).
How do we
come up with it?
1.
This project is like everything else we do and we are a
public company
2.
This project is unlike everything else we do, but there exist
public companies whose businesses are like this project
3.
This project is unlike anything that any public company is
doing
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Cal ahan
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DCF Analysis – Is Our Way the Only Way?
Our valuation approach has been:
1.
Estimate the expected cash flows:
2.
Determine an appropriate riskadjusted discount rate:
3.
Discount the expected cash flows at the riskadjusted
discount rate:
Is this the only approach?
NO!
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The Certainty Equivalent Method
There are some situations where the standard approach
[RADR DCF = riskadjusted discount rate discounted
cash flow] will run into trouble.
Theoretical and practical:
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 Fall '07
 Trimbath
 Net Present Value, certainty equivalent method, certainty equivalent cash

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