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| − | In [[Entrepreneurial Finance|Entrepreneurial Finance]] the Certainty Equivalent Cash Flow or CEQ is defined as a common method of estimating [[Present Value|Present Value]]. The second common method mentioned is the [[Risk Adjusted Discount Rate|Risk Adjusted Discount Rate]]. In the CEQ method instead of adjusting the discount rate (which is done in the [[RADR|RADR]]) the risk adjustment is made directly to the cash flow. After that the risk-adjusted or, better in this case the '''certainty equivalent''' cash flow is converted to [[Present Value|Present Value]] by discounting at the risk free rate. Thus, if:
| + | Certainty Equivalent Cash Flow |
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| − | <math>C_{jt}</math> is the expected future cash flow of asset <math>j</math> at time <math>t</math> the certainty equivalent cash flow <math>CE(C_{jt})</math> can be described as follows:
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| − | <math>CE(C_{jt})</math> <math>=</math> <math>C_{jt} - RD_{jt}</math>
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| − | Where:
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| − | <math>RD_{jt}</math> is the dollar valued discount to <math>C_{jt}</math> that is required to convert the risky expected cash flow to its certainty equivalent.
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| − | Certainty Equivalent Cash Flow (CEQ) is:
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| − | <math>PV</math> - <math>\sum{\frac{C_t-RD_r}{(1+r_{pt})^t}}</math>
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| − | Issues:
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| − | * What cash flows should be valued?
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| − | * How risky cash flows adjusted to their certainty equivalents?
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| − | * What is the discount rate for valuing certain future cash flows?
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| | [[Category:finance]] | | [[Category:finance]] |
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Revision as of 18:38, 27 August 2020
Certainty Equivalent Cash Flow
