Chapter: 10 Stock Valuation

Section: 3 Valuing an Asset with Guaranteed Cash Flows

The simplest assets to value have cash flows that are guaranteed, that is, assets whose promised cash flows are always delivered. The best example of such an asset is a government bond. Suppose, the prevailing yield in the market on government bonds is 4%. Hence, a government bond with 3 years to maturity, SR 1,000 par value and an annual coupon rate of 6% will be valued as follows:

Value of Govt. Bond =

      60                 60                  60 + 1000

_________   +  ________   +  ________________

  (1 + 0.4)        (1 + 0.4)2                (1 + 0.4)3

 

=

SR 1,055.5