Annuity or perpetuity factors will therefore discount the cash flows back to give the value one year before the first cash flow arose. The use of annuity factors and perpetuity factors both assume that the first cash flow will be occurring in one year's time. Advanced and delayed annuities and perpetuities There are also Annuity Tables in which many annuity factors have already been calculated. This can be found from the formula, or from special Present Value tables in which many discount factors have already been calculated.
(1 + r) -n is called the discount factor (DF). What is the present value of $3,000 received in one year's time and for ever if the interest rate is 10%? The PV of a perpetuity is found using the formula Therefore the PV of the annuity is $3,600 × 5.206 = $18,741.60 Discounting perpetuitiesĪ perpetuity is an annual cash flow that occurs forever. To make a useful comparison of the different flows, they must all be converted to a common point in time, usually the present day, i.e. In a potential investment project, cash flows will arise at many different points in time. To speed up the compounding calculation, we can use a formula to calculate the future value of a sum invested now. The $100 will be worth $121 in two years at an interest rate of 10%. What is the value of the investment after two years if the interest rate is 10%? To compound a sum, the figure is increased by the amount of interest it would earn over the period.Īn investment of $100 is to be made today. Compounding calculates the future or terminal value of a given sum invested today for a number of years. These are:ĭiscounted cash flow (DCF) techniques take account of this time value of money when appraising investments.Ī sum invested today will earn interest. Cash flows and relevant costsįor all methods of investment appraisal, with the exception of ROCE, only relevant cash flows should be considered. Alternatively, companies could use discounted cash flow techniques discussed on this page, such as Net Present Value (NPV) and Internal Rate of Return (IRR). When appraising capital projects, basic techniques such as ROCE and Payback could be used.
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