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How does one value perpetual earning investments? The $2.1M is 18.36 times the annual earnings. So after 18 years you’ve paid off your investment and get $100+/year forever. In 36 years you’ve doubled your money and the return would be 2% using the back of napkin rate divided into 70 doubling time.

But over time it just keeps paying off, so the stability is good but likely many other investments would give higher returns.

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The short answer is Net Present Value or Discounted Cash Flow. Future money is worth less than present money for inflation and other reasons. So you discount any future moneys by some amount per year--doesn't need to be a fixed amount--and eventually you reach a point where that dollar you're receiving in 50 years is worth... not much.

Very theoretically stocks are valued in the same way based on future dividend payments. But that's not really how analysts price companies.

But if this is royalties from sales, wouldn't the amount theoretically rise with inflation, especially for a mass market consumer product like Listerine? So I don't see how if you hold on to this royalty (easy to do), and Listerine sales don't tank (out of your control), wouldn't your earnings be more or less constant in real terms?

I was answering a specific question--how you evaluate. Yes, in this case, I would assume royalties would track roughly with inflation, i.e. future cash flows will increase although there are other reasons to discount beyond that number. Even absent inflation you can earn some money by banking it. And there's also risk of "stuff" happening as you move into the future.

DCF still works if you assume 0% inflation, as even without inflation tomorrow dollars are worth less than today dollars.

> even without inflation tomorrow dollars are worth less than today dollars.

Interesting and a little counterintuitive but I guess it has to do with the time value of the dollar. As in you own the dollar longer thus it has more value?

> As in you own the dollar longer thus it has more value?

No. As in, having $10 million cash in hand today has more value than having a guarantee that you will be paid $10 million 10 years from now. Think about it, would you rather have $10 million now, or in 10 years? Which is more valuable to you?

Exactly this. I’ll gladly pay you Tuesday for a hamburger today.

Two ways to think about why I'd rather have $1,000 today than $1,000 a year from now:

- I could invest the money today and have more than $1,000 next year

- I might die before next year and never get to enjoy the money

Essentially I’ll never lend you money if i won’t earn anything from it.

https://en.wikipedia.org/wiki/Annuity#Valuation

Assuming 0 growth the formula for calculating the present value of a perpetuity is: annual cashflow / discount rate = present value

So based on your numbers, the discount rate is 5.6%. For personal investments, the discount rate is often used is the rate of return that could be obtained from other investments. If we look at stocks (s&p500) around 7% post-inflation return historically, using that as the discount rate, the present value is $114,253 / 7% = $1.6m. That is to say 2.1M is better off in the stock market than buying this, if you assume 7% returns on average.

EDIT: Actually if you assume this tracks inflation (not sure if this is true) and payout grows 2% per year, the discount rate is closer to 7.5%. The formula including growth: http://news.morningstar.com/classroom2/course.asp?docId=1451...

It's especially great if you live forever, as in 55 years you'll triple it and in 73 you'll quadruple it!

I don't see how it compounds. It's just a royalty stream?

It must keep pace with inflation though (I guess through increasing sale price of Listerine over time?)

There's no compounding in my reply, each 18 years you make the same amount.

DCF

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