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Valuation of Corporate Securities

 Self-Paced Overview

General Valuation Model

In financial terms, the value of an asset flows derives from the cash flows associated with that asset. This applies whether the asset is a financial asset or a real asset. The cash flows must be evaluated on a present value basis. Thus the value of any asset at time 0 might be modeled in the following fashion.

V0 = C1 + C2 + . . . + Cn
(1 + i)1 (1 + i)2 (1 + i)n

where:  V0
C = 
i = 
n = 

Value at time 0 
Year's Cash Flow
Annual Interest Rate
Number of Years

For instance, a three-year asset with cash flows of $2000 in year one, $3000 in year two, and $5000 in year three would be valued at $9144 if interest is 4%.

Year Cash Flow × PVIF @ 4% = Discounted Cash Flow
1 $2000 × .962 = $1924
2 $3000 × .925 = $2775
3 $5000 × .889 = $4445
   $9144 

So the discounted value of the cash flows for this asset is $9144. Does this mean that the price of the asset at time 0 would be $9144? It does if the market for the asset is efficientEfficient Markets:Markets in which prices adjust quickly to new information and prices reflect the economic value of information.. So in an efficient market, V0 = P0. Thus to value or price an asset in an efficient market, simply identify the cash flows associated with the asset and discount them down to present value.


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