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when cash flows are in perpetuity & these cash flows have to be discounted then why 1/r is used ? , please explain this
This is right back to paper F2!!
Suppose I was supposed to pay you 10,000 a year for ever, and the interest rate is 10%.
Rather than have to keep paying you 10000 every year, I could just put 100,000 in the bank for you now, and with interest of 10% a year it would generate 10000 a year for ever and I could then forget you. The two would be equivalent.
How did I know it would need 100000? I worked backwards and divided 10000 by the 10% interest rate.
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