Synopses & Reviews
Synopsis
Excerpt from Calculating the Present Value, of Riskless Cash Flows
In this note I use arbitrage arguments to prove that the minimal present value of a stream of after-tax riskless cash flows is determined by discounting them at the after - tax discount rate. In the proof the firm constructs the arbitrage by issuing riskless debt with after-tax payments that exactly offset the stream of after-tax cash flows being valued. This equivalent loan is feasible since the firm can secure it with the riskless stream of cash inflows. Furthermore, the equivalent loan is an appropriate arbitrage portfolio in the sense that it eliminates changes in the amount of net debt which would otherwise be associated with the project. Net riskless debt is defined as the present value of riskless cash outflows less the present value of riskless cash inflows. Since the outflows of the equivalent loan exactly offset the riskless inflows from the project in each period, the arbitrage proof does not result in any changes in the firm's riskless net debt.
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