Note on Valuation of Cash Flows in Different Currencies

10 Pages Posted: 12 Jun 2009

See all articles by Robert S. Harris

Robert S. Harris

University of Virginia - Darden School of Business

Abstract

This technical note provides a pedagogical overview of management communication for MBA education.

Excerpt

UVA-F-1080

NOTE ON VALUATION OF CASH FLOWS IN DIFFERENT CURRENCIES

Valuing business entities in foreign countries has unique challenges. Forecasts of cash flows must take into account such issues as taxes, accounting standards, and currency restrictions. Next, one must decide how to value the cash flow. There are two general approaches: the forward-rate method and the spot-rate method. The forward-rate method uses future exchange rates to translate the forecasted foreign currency into domestic currency, and then discounts this future stream of domestic-currency cash flow using a domestic discount rate. The spot-rate method discounts the foreign-currency cash-flow stream using a foreign discount rate, and then translates the present-value result into the domestic currency using the spot exchange rate. Lia completed SWAT edit.

Forward-Rate Method

The key to the forward-rate method is specifying the future exchange rate between countries. In some cases, forward exchange contracts allow one to guarantee an exchange rate in a future period. Frequently, however, forecasts of future exchange rates are needed. For financial forecasts, the most common methods use Purchase Power Parity (PPP) or the International Fisher Effect (IFE). PPP states that the real price of goods will be the same in all countries because of international arbitrage in goods. For example, if one pound of aluminum costs $ 1 in the United States, one pound of aluminum will cost the equivalent of $ 1 in Great Britain as well. PPP requires that exchange rates change by the difference between the domestic and foreign inflation rates.

The formula for PPP is:

. . .

Keywords: communication process, communication strategy

Suggested Citation

Harris, Robert S., Note on Valuation of Cash Flows in Different Currencies. Darden Case No. UVA-F-1080, Available at SSRN: https://ssrn.com/abstract=1418349

Robert S. Harris (Contact Author)

University of Virginia - Darden School of Business ( email )

P.O. Box 6550
Charlottesville, VA 22906-6550
United States
434-924-4823 (Phone)
434-924-4859 (Fax)

HOME PAGE: http://www.darden.virginia.edu/faculty/harris.htm

Here is the Coronavirus
related research on SSRN

Paper statistics

Downloads
268
Abstract Views
1,774
rank
124,739
PlumX Metrics