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- Present Value
Present Value
Present value is the current value of future cash flows. This could represent a single sum or multiple payments. Present value is found by discounting the future cash flows by a discount rate based on the time until the cash flows will be realized. This discount rate will vary based on many circumstances.
For example, the present value of two $100 payments, 1 and 2 years away, with a discount rate of 10% annually, would have a present value of $173.55. The first payment is worth $100/(1+0.1) and the second payment is worth $100/( (1+0.1)^2 ).
The discount rate an investor uses is usually based on the return they would expect to get from similar assets. A higher discount rate will always lower the present value of future cash flows. Similarly, returns that are further in the future will always lower the present value of those cash flows.
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