BFB1001 Lecture Notes - Lecture 5: Net Present Value
2 Aug 2018
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Risk: uncertainty of cash ows; in timing and magnitude: when risk increases, a greater return is needed to compensate for the added risk burden ( risk, . Return: holding all else equal, when future cash ows become more uncertain (risk increases), the present value of their worth today falls. This places down pressure on it"s price, as buyers should rationally pay less for lower value (greater risk = less value = lower price) Upside: receiving future earnings greater, paying future cost lesser/later than sooner than expected. expected. Downside receiving less/later future earnings: paying greater/sooner future cost than than expected. expected. Npv: net cash ows over the asset holding period are discounted by the required rate of return to establish the asset"s present value worth. This is then compared to the cost/price of the asset; by subtracting the cost from the present value worth (present value - price: negative npv implies that the cost > worth.
