15.401
15.401 Finance Theory
MIT Sloan MBA Program
Andrew W. Lo
Harris & Harris Group Professor, MIT Sloan School
Lectures 2–3: Present Value Relations
© 2007–2008 by Andrew W. Lo
, Critical Concepts 15.401
Cashflows and Assets
The Present Value Operator
The Time Value of Money
Special Cashflows: The Perpetuity
Special Cashflows: The Annuity
Compounding
Inflation
Extensions and Qualifications
Readings:
Brealey, Myers, and Allen Chapters 2–3
© 2007–2008 by Andrew W. Lo Slide 2
Lecture 2-3: Present Value Relations
, Cashflows and Assets 15.401
Key Question: What Is An “Asset”?
Business entity
Property, plant, and equipment
Patents, R&D
Stocks, bonds, options, …
Knowledge, reputation, opportunities, etc.
From A Business Perspective, An Asset Is A Sequence of Cashflows
© 2007–2008 by Andrew W. Lo Slide 3
Lecture 2-3: Present Value Relations
, Cashflows and Assets 15.401
Examples of Assets as Cashflows
Boeing is evaluating whether to proceed with development of a new
regional jet. You expect development to take 3 years, cost roughly
$850 million, and you hope to get unit costs down to $33 million. You
forecast that Boeing can sell 30 planes every year at an average price
of $41 million.
Firms in the S&P 500 are expected to earn, collectively, $66 this year
and to pay dividends of $24 per share, adjusted to index. Dividends
and earnings have grown 6.6% annually (or about 3.2% in real terms)
since 1926.
You were just hired by HP. Your initial pay package includes a grant
of 50,000 stock options with a strike price of $24.92 and an expiration
date of 10 years. HP’s stock price has varied between $16.08 and
$26.03 during the past two years.
© 2007–2008 by Andrew W. Lo Slide 4
Lecture 2-3: Present Value Relations
15.401 Finance Theory
MIT Sloan MBA Program
Andrew W. Lo
Harris & Harris Group Professor, MIT Sloan School
Lectures 2–3: Present Value Relations
© 2007–2008 by Andrew W. Lo
, Critical Concepts 15.401
Cashflows and Assets
The Present Value Operator
The Time Value of Money
Special Cashflows: The Perpetuity
Special Cashflows: The Annuity
Compounding
Inflation
Extensions and Qualifications
Readings:
Brealey, Myers, and Allen Chapters 2–3
© 2007–2008 by Andrew W. Lo Slide 2
Lecture 2-3: Present Value Relations
, Cashflows and Assets 15.401
Key Question: What Is An “Asset”?
Business entity
Property, plant, and equipment
Patents, R&D
Stocks, bonds, options, …
Knowledge, reputation, opportunities, etc.
From A Business Perspective, An Asset Is A Sequence of Cashflows
© 2007–2008 by Andrew W. Lo Slide 3
Lecture 2-3: Present Value Relations
, Cashflows and Assets 15.401
Examples of Assets as Cashflows
Boeing is evaluating whether to proceed with development of a new
regional jet. You expect development to take 3 years, cost roughly
$850 million, and you hope to get unit costs down to $33 million. You
forecast that Boeing can sell 30 planes every year at an average price
of $41 million.
Firms in the S&P 500 are expected to earn, collectively, $66 this year
and to pay dividends of $24 per share, adjusted to index. Dividends
and earnings have grown 6.6% annually (or about 3.2% in real terms)
since 1926.
You were just hired by HP. Your initial pay package includes a grant
of 50,000 stock options with a strike price of $24.92 and an expiration
date of 10 years. HP’s stock price has varied between $16.08 and
$26.03 during the past two years.
© 2007–2008 by Andrew W. Lo Slide 4
Lecture 2-3: Present Value Relations
