The Importance of Cash Flows in Finance

The Importance of Cash Flows in Finance - interest rate...

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THE IMPORTANCE OF MAGNITUDE, TIMING AND RISK OF CASH FLOWS WHEN VALUING AN ASSET The intrinsic (economic) value of an asset (real or financial) is the sum of its future cash flows discounted back to period 0 by an appropriate interest rate. This present value represents the MAXIMUM amount financial managers or investors should pay for that asset today. Note : The appropriate discount interest rate (required rate of return) adjusts the asset’s present value by taking into consideration the risk(iness) of the cash flows. A higher discount interest rate results in a lower present value of an asset vs. a lower discount
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Unformatted text preview: interest rate that results in a higher present value of an asset. If this asset is currently selling for MORE than its intrinsic or economic value in the market, it is OVERVALUED to the financial manager or investor and he or she should NOT BUY the asset. If this asset is currently selling for LESS than its intrinsic or economic value in the market, it is UNDERVALUED to the financial manager or investor and he or she should BUY the asset....
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