Suppose that the discount rate from the cash flows above is 8%. This means that

Suppose that the discount rate from the cash flows above is 8%. This means that a required return of 8% is necessary to make the investment worthwhile. What is the present value of the cash flows at 8%? To calculate the present value each cash flow must be considered to be a component of the total present value of the asset. Then simply adding up the components gives the total present value. For example:PV = (5000 / (1 + 0.08)0) + (2000 / (1 + 0.08)1) + (500 / (1 + 0.08)2) + (10000 / (1 + 0.08)3)= 5000 + 1851.85 + 428.67 + 7938.32= $15218.84So the present value of the asset is approximately $15 219. Using the more complicated set of steps above the present value of any asset can be calculated provided that the expected future cash flows have already been estimated. The next article in the series will consider calculating the future value of uneven cash flows.