Discounted Cash Flow Flashcards, test questions and answers
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What is Discounted Cash Flow?
Discounted cash flow (DCF) is a financial analysis technique that calculates the present value of future cash flows. It is used to determine the value of an investment or project, and it applies a discount rate to each future cash flow to arrive at a present value. This process allows investors to compare different investments and make decisions about which ones are likely to generate larger returns for them.The DCF model takes into account certain factors such as the initial cost, expected cash inflows and outflows, the timing of these cash flows, the risk associated with them, and any taxes or other costs associated with them. The discount rate applied to each future cash flow is based on the time value of money: all else being equal, money received today is worth more than money received in the future due to inflation or other changes in economic conditions over time. By using discounted cash flow analysis, investors can get an idea of what their return on investment may be if they decide to invest in a particular project or venture. There are several advantages associated with using discounted cash flow analysis when making investment decisions. First, it allows investors to look at potential investments from both a short-term and long-term perspective by allowing them to adjust their discount rate depending on how far into the future they expect returns from their investments. Second, it helps reduce uncertainty by taking into account risks associated with potential investments that may not have been considered otherwise; this includes risk related factors like inflation rates, interest rates and currency fluctuations among others. Finally, DCF models provide quantitative measures that allow investors to compare different investments side-by-side and make more informed decisions about which ones offer higher returns for their capital invested in them. Ultimately, discounted cash flow analysis offers investors insight into how much they could expect from investing in a particular asset over time after factoring in all relevant costs such as taxes and fees as well as risks related factors like inflation rates and interest rates among others.