Discounted Cash Flow

DCF is what someone would be willing to pay today, to receive a cash flow in
the future. Money received in the future is called the Future Value, money
received in the present is called Present Value. To calculate the PV of the
Future CF, one needs to discount by a discount rate. The discount rate is also
called the rate of return.
Time Value of Money

Compounding and discounting

Net Present Value

It is the sum of all the future cash inflows and outflows. If NPV is +ve then the
project is profitable and if -ve then the project is not profitable.
Annuities
It is the equal payments, over equal time periods, guaranteed for a fixed number
of years.

Perpetuities
A perpetuity is an investment that has no definite end. It is a stream of cash that
continues forever. For ex: UK war bonds with no redemption date, Real estate
(Rental income). There are two types of perpetuity Constant and Growing.

Bonds
A bond is a debt instrument requiring the issuer to repay the investor the amount
borrowed plus interest over some specified period of time. The par value is the
amount returned to the bond investor by the issuer. The coupon rate is the size
of the coupon we receive on an annual basis.
The Yield to Maturity is the overall return the bond investor makes if they
purchased the bond today and held it till maturity. In DCF, it is same as required
rate of return. YTM = Coupon + Capital gain/loss
Current Yield is the return we get from the income component of a bond as a
percentage of its current price.
Relationship b/w Coupon rate, Current yield and YTM

Valuing a bond
 First, determine the future cash flow from the bond
 Second, find the present value of each future cash flow
 Third, sum of all present values
Types of Bonds
 Fixed Rate Bond: Coupons that remain constant throughout the life of the
bond.
 Floating Rate Bond: Coupons are linked to underlying benchmark which
can be LIBOR and can be reset periodically.
 Zero Coupon Bond: They pay no interest and repay only one principal
amount at maturity. They trade at a discount from their maturity value.
 Inflation linked bond: Principal amount indexed to inflation. Interest rate is
fixed, but principal and interest payment grow.
 Callable Bond: The issuer has the right to repay the bond before the
maturity date. The puttable bond is the opposite where the investor has the
right to put the bond back at the company and have it repaid.
 Convertible Bond: Can be converted into shares of stock in the issuing
company.
Syndicated Lending
When two or more banks provide credit to one borrower in one agreement.
Lease
It is a mode through which one can obtain an asset without paying for it
immediately. When an asset is leased, it remains the property of the lessor.
There are two types of leases:
 Capital or Finance Lease: Usually of longer-term period, most of the risk
and rewards of ownership are transferred to lessee. It is recorded on the
Balance Sheet. The asset side will show the respective asset which is offset
by the Obligation to be paid for the asset. The company deals directly with
the owner of the asset.
 Operating Lease: Usually of shorter-term period, risks and rewards do not
transfer to the lessee. It is recorded on the Income Statement. The asset is
delivered back to the owner until it is no longer required.
Types of Preference Shares