Discounted cash flow

Discounted cash flow analysis is widely used in investment finance, real estate development, corporate financial management, and patent valuation.

Using DCF analysis to compute the NPV takes as input cash flows and a discount rate and gives as output a present value.

The opposite process takes cash flows and a price (present value) as inputs, and provides as output the discount rate; this is used in bond markets to obtain the yield.

Studies of ancient Egyptian and Babylonian mathematics suggest that they used techniques similar to discounting future cash flows.

[citation needed] Modern discounted cash flow analysis has been used since at least the early 1700s in the UK coal industry.

[3] Discounted cash flow valuation is differentiated from the accounting book value, which is based on the amount paid for the asset.

However the assumptions used in the appraisal (especially the equity discount rate and the projection of the cash flows to be achieved) are likely to be at least as important as the precise model used.

Both the income stream selected and the associated cost of capital model determine the valuation result obtained with each method.

This approach provides decision makers with the insight to identify opportunities for value creation that promote growth and change within an organization.