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)
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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