## Corporate Finance Basics

### How do I discount
a cash flow?

####

#### There are a number of types of cash flows and ways to
discount
them. There are single cash flows and multiple cash flows, and simple
interest; compound interest and continuous compound interest may be used
to discount them. We can
also use the current value of a cash flow to find the future value or use
the future value to find the present value.

Let's start with one of the more common, the single cash flow. In
order to
find the PV (present value) or FV (future value) of a cash flow, we must
have a discount rate. Examples of this rate are an
interest rate or a required rate of return.

The following example demonstrates when to use this method to find
a
present value of a single cash flow with compounded interest:

If, for example, we are looking to invest in a utility stock. We know
that the CAPM and the DVM are
the best methods to use to value utility stocks, but this stock does not
give a dividend this year. The stock, however, will give a
dividend of .50 in the year 2001. We therefore must discount the
dividend by our required rate of return for the stock. (9% for example)

#### PV= .5/(1+.09)^{2}

PV= .42

#### Since the year 2001 is 2 years away, and we want the
current value of the dividend, we square the sum of 1 plus our required
rate
of return.

Often, we want to put a present value on something that has more than
one cash flow. An example of this would be valuing a
project. If the project were to last forever and give equal cash
flow streams that are uniformly spaced, it is called a
perpetuity; and if this cash flow stream has a fixed number of payments it
is called an annuity.

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