it normalizes the sequence of payments to a single

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Unformatted text preview: le number, the PV, by discounting all future payments to t=0. - From above, the present value of a cash flow stream (with constant interest rate) is PV C1 C2 CT .. (1 r ) (1 r ) 2 (1 r ) T . Remark This formula will play an important role in enterprise valuation (II.4). Corporate Finance, Tri Vi Dang, Columbia University, Fall 2013 18 Example 1 (cont.) What is the PV of CA=(1,3,6) and CB=(4,2,3)? Case 1: r=0: PV A 1 3 6 10 PV B 4 2 3 9 Asset A has a higher PV and is better than B. Corporate Finance, Tri Vi Dang, Columbia University, Fall 2013 19 Case (2): r=0.4 1 3 6 PV A 3 4.43 2 1.4 1.4 1.4 PV B 4 2 3 2 3 4.97 1.4 1.4 1.4 Asset B has a higher PV and is better than A. Corporate Finance, Tri Vi Dang, Columbia University, Fall 2013 20 Remark The PV of a cash flow stream as a (decreasing) function of the interest rate. Figure PV as a function of r Present value PV 12,00 10,00 8,00 PV(A) 6,00 PV(B) 4,00 2,00 0,00 0,0 1,0 2,0 3,0 Interest rate r Corporate Finance, Tri Vi Dang, Columbia University, Fall 2013 21 Implication - The cash flow stream with the highest present value is the most valuable one. - DCF is a first approach to value real investment. - Decision rule: If PV(revenue – expenses) > setup cost at t=0 then investment is profitable. Corporate Finance, Tri Vi Dang, Columbia University, Fall 2013 22 Remark The PV of an infinite constant ca...
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This document was uploaded on 02/16/2014 for the course ECON w4280 at Columbia.

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