BUS 313

What is a business really worth?

Name: Business Tutor
Address: Burnaby, BC, CA
Telephone: +1-604-916-5838
Price range: C$30–C$129

Put the cash flows on a timeline, value growth that lasts a few years or forever, then value a whole business from its free cash flow and a horizon value. Finish with quoted loan rates.

Part 1 · Present value on a timeline · Step 1 of 10

NPV: every cash flow in today’s dollars, the cost included

Each expected cash flow and its value today

expected cash flow, when it arrivesits value today at r = 10%

Part 1 · Present value on a timeline · Step 1 of 10

NPV: every cash flow in today’s dollars, the cost included

A bakery can open a second shop for $100,000 today and expects cash to come in over the next four years. The net present value (NPV) is the present value of all the project’s cash flows, the cost included: NPV = C₀ + C₁ ÷ (1 + r) + C₂ ÷ (1 + r)² + … The cost C₀ is negative and is paid today, so it is not discounted. The discount rate r is the opportunity cost of capital: the return the owners give up by not putting the same money into another investment with the same risk.

Try it: Switch on each kind of risk. Both lower the NPV, but through different doors: one raises r, the other shrinks the expected cash flows.

Opportunity cost of capital, r10%

A new risk for the shop

NPV

$13,571

PV of the inflows

$113,571

Discount rate used

10%

At 10% the inflows are worth $113,571 today, more than the $100,000 cost, so the NPV is positive: opening the shop adds value.

PV of inflows = $30,000 ÷ 1.1 + $35,000 ÷ 1.1² + $40,000 ÷ 1.1³ + $40,000 ÷ 1.1⁴ = $113,571

Each cash flow is divided by (1 + r) once for every year it waits.

NPV = −$100,000 + $113,571 = $13,571

The cost is paid today, so it is already in today’s dollars.

Check yourself

A mine could collapse in an accident that has nothing to do with how the economy is doing. In a valuation, this risk should…

Midterm coming up and the horizon value still feels slippery?

Bring your problem sets. We work through them together until every type feels routine.

Book a session Next toolNext: NPV and its competitors: payback, book return and IRR

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What is a business really worth?

NPV: every cash flow in today’s dollars, the cost included

NPV: every cash flow in today’s dollars, the cost included

A new ferry route: fast growth, then slow growth forever

Midterm coming up and the horizon value still feels slippery?

Questions, answered.

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