6

Calculators
Discounted Cash Flow Valuation: Part I

McGraw-Hill/Irwin

Copyright 2008 by The McGraw-Hill Companies, Inc. All rights reserved.

Chapter Outline
Part I:
Future and Present Values of Multiple Cash Flows

Part II:
Valuing Level Cash Flows: Annuities and Perpetuities Comparing Rates: The Effect of Compounding Loan Types and Loan Amortization 6

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Multiple Cash Flows Future Value Example 6.1

Find the value at year 3 of each cash flow and add them together.
Calculate FV of each CF Todays (year 0) CF: 3 N; 8 I/YR; -7,000 PV; FV = 8817.98 Year 1 CF: 2 N; 8 I/YR; -4,000 PV; FV = 4,665.60 Year 2 CF: 1 N; 8 I/YR; -4,000 PV; FV = 4,320 Year 3 CF: value = 4,000 Then, total future value in 3 years = 8,817.98 + 4,665.60 + 4,320 + 4,000 = 21,803.58
6 (Calculators)-2

Multiple Cash Flows FV Example 2

Suppose you invest $500 in a mutual fund today and $600 in one year. If the fund pays 9% annually, how much will you have in two years?
Year 0 CF: 2 N; -500 PV; 9 I/YR; FV = 594.05 Year 1 CF: 1 N; -600 PV; 9 I/YR; FV = 654.00 Total FV = 594.05 + 654.00 = 1,248.05
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Multiple Cash Flows Example 2 Continued

How much will you have in 5 years if you make no further deposits? First way:
Year 0 CF: 5 N; -500 PV; 9 I/Y; CPT FV = 769.31 Year 1 CF: 4 N; -600 PV; 9 I/Y; CPT FV = 846.95 Total FV = 769.31 + 846.95 = 1,616.26

Second way use value at year 2:

3 N; -1,248.05 PV; 9 I/Y; CPT FV = 1,616.26

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Multiple Cash Flows FV Example 3

Suppose you plan to deposit $100 into an account in one year and $300 into the account in three years. How much will be in the account in five years if the interest rate is 8%?
Year 1 CF: 4 N; -100 PV; 8 I/YR; FV = 136.05 Year 3 CF: 2 N; -300 PV; 8 I/YR; FV = 349.92 Total FV = 136.05 + 349.92 = 485.97 6 (Calculators)-5

Multiple Cash Flows Present Value Example 6.3

Find the PV of each cash flows and add them
Year 1 CF: N = 1; I/YR = 12; FV = 200; PV = -178.57 Year 2 CF: N = 2; I/YR = 12; FV = 400; PV = -318.88 Year 3 CF: N = 3; I/YR = 12; FV = 600; PV = -427.07 Year 4 CF: N = 4; I/YR = 12; FV = 800; PV = - 508.41 Total PV = 178.57 + 318.88 + 427.07 + 508.41 = 1,432.93
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Multiple Cash Flows Present Value Example 6.3

Alternatively
4 N; 12 I/YR; 0 CFj; 200 CFj; 400 CFj; 600 CFj; 800 CFj SHIFT NPV = 1,432.93 NPV = net present value = total present value

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Example 6.3 Timeline

0 1 2 3 4

200
178.57
318.88 427.07 508.41 1,432.93

400

600

800

6 (Calculators)-8

Multiple Cash Flows Using a Spreadsheet

You can use the PV or FV functions in Excel to find the present value or future value of a set of cash flows Setting the data up is half the battle if it is set up properly, then you can just copy the formulas Click on the Excel icon for an example

6 (Calculators)-9

Multiple Cash Flows PV Another Example

You are considering an investment that will pay you $1,000 in one year, $2,000 in two years and $3,000 in three years. If you want to earn 10% on your money, how much would you be willing to pay? N = 1; I/YR = 10; FV = 1,000; PV = -909.09 N = 2; I/YR = 10; FV = 2,000; PV = -1,652.89 N = 3; I/YR = 10; FV = 3,000; PV = -2,253.94 PV = 909.09 + 1,652.89 + 2,253.94 = 4,815.93 Alternatively; 3 N; 10 I/YR; 0 CFj; 1,000 CFj; 2,000 CFj; 3,000 CFj SHIFT NPV = 4,815.93
6 (Calculators)-10

Multiple Uneven Cash Flows Using CF Key

Your broker calls you and tells you that he has this great investment opportunity. If you invest $100 today, you will receive $40 in one year and $75 in two years. If you require a 15% return on investments of this risk,

should you take the investment? Use the CF keys to compute the value of the investment 3 N; 15 I/YR; 0 CF0; 40 CF1; 75 CF2; NPV = 91.49 No the broker is charging more (100) than the worth of that investment (91.49).

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Saving For Retirement

You are offered the opportunity to put some money away for retirement. You will receive five annual payments of $25,000 each beginning in 40 years. How much would you be willing to invest today if you desire an interest rate of 12%?
Since the cash outflows are equal each period, you can either use CF or PMT functions.
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Saving For Retirement Timeline

0 1 2 39 40 41 42 43 44

0 0 0

25K 25K 25K 25K 25K

Notice that the year 0 cash flow = 0 (CF0 = 0) The cash flows years 1 39 are 0 (C01 = 0; F01 = 39) The cash flows years 40 44 are 25,000 (C02 = 25,000; F02 = 5)
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Saving For Retirement: Calculator

Two steps: First, calculate PV of total 5 withdrawals from Year 40 to Year 44
Using CF Function 6 N, 12 I/YR; 0 CFj; 25,000 CFj; 25,000 CFj; 25,000 CFj ; 25,000 CFj; 25,000 CFj ; SHIFT NPV = 90,119.41 Or Using PMT Function (only if CF is equal each year) 5 N; 12 I/YR; 25,000 PMT; PV = -90,119.41 This value is actually PV at Year 39 => FV

Then, calculate PV of this value (FV)

39 N, 12 I/YR; 90,119.41 FV; PV = -1,084.71
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Quick Quiz Part I

Suppose you are looking at the following possible cash flows: Year 1 CF = $100; Years 2 and 3 CFs = $200; Years 4 and 5 CFs = $300. The required discount rate is 7% What is the value of the cash flows at year 5? What is the value of the cash flows today? What is the value of the cash flows at year 3?

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Quick Quiz Part VI

What is a pure discount loan? What is a good example of a pure discount loan? What is an interest-only loan? What is a good example of an interest-only loan? What is an amortized loan? What is a good example of an amortized loan?

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6
Calculators
End of Chapter

McGraw-Hill/Irwin

Copyright 2008 by The McGraw-Hill Companies, Inc. All rights reserved.