Discounted cash flow
In financial accounting, DFC (discounted cash flow) is the process of valuing a company, asset or project with the help of the models of the time value of money. All the future cash flows are calculated and discounted to provide their PVs or present values – the total of all the future cash flows, both outgoing and incoming, is the NPVs or Net present values which is considered as price or value of the cash flows in the questions.
With the use of the DFC analysis to calculate the net present value takes as the input cash flows and the discount rate and it provides as output a value. The inverse method is by taking the rate and cash flows and the deducing a discount rate is known as the yield.
DFC analysis is generally used in the real estate developments, corporate financial management and investment finance.
The exponential discounting is the most commonly methods used for discounting that values the future cash flows such as how much cash should be invested presently at a given price or return, in order to yield the future cash flow or cash flow in the future. Other process of discounting like the hyperbolic discounting, is generally studied in the academic world and said to reflect instinctive decision-making, however it is not commonly used in the industry.
Discount rate utilized is usually the proper WACC, which reflects the problems of the cash flows.
The discount rate shows or reflects things such as:
The time value of the money (risk-free interest rate) according to the concept of the time preference, investors and owners would instead have money instantly than having to wait and therefore should be compensated by paying the delay.