Analysis Discounted Cash Flow
Discounted Cash Flow is defined to as the net valuation of the cash flows which the providers of the capital are in a position to acquire. it is this net cash that is required for the establishment of a projected growth (IFAC, 2008). The DCF is characterized by the current price stock and dividend as well as the marginal investor’sspeed of growth of the dividend. The problem arises in the acquisition of the stock marginal capital cost which is hard to approximatewhen compared to the stock price. On the other hand, the average capital cost gives us the mean of the average values. The average capital cost approach that is applied in the DCF requires extra amount of care when handling it, which is in the choosing of the most appropriate income stream. The net cash flow to the full investment made is basically accepted.
The cost of the capital is applied in the financial investment arena so as to make reference to the cost of the company’s fund. The accuracy that is accorded to the valuation is more reliant on the quality of the assumptions. This is quite disadvantageous as the capital cost valuations are expressed as ranges of values for necessary inputs. DCF is a mechanical valuation the small changes in the inputs can result in huge changes in the value of the company.
IFAC. (2008). Project Appraisal Using Discounted Cash Flow. International Good Practice Guidance.
Question 1: Use of NPV and IRR in determining an Investment
Before investing in any business undertaking it’s important to evaluate the NPV and the IRR before deciding on which venture to engage in. however, it’s advisable to invest in a venture that has high NPV than investing in one with low IRR.NPV provides an insight on the future performance of an investment hence it’s a parameter that can be used in determining future prospects of an investments since its pegged on realistic market assumptions.
Since NPV is uses the present value in forecasting the future by use of cash flows throughout the life span of an investment it gives the actual projections of investment profitability (Abeysinghe,2010).
Although IRR can also be used in calculating the future viability of an investment it’s important to take note due to the fact that IRR works with assumptions that the obtained profits will be reinvested as the initial cost. This may not be the case due to increase and decreases of products prices in markets hence it may mislead an investor.
Abeysinghe,L.R,(2010).Net Present Value Method. Ezine Articles.com. Retrieved on 11 October 2011 from http://ezinearticles.com/?Net-Present-Value-Method&id=4711111