Finance Formulas / July 19, 2018 / Aniyah Booth
Economic profit is a measurement of opportunity cost. Opportunity cost is the value of the trade-off when a decision is made. For example, an individual may consider returning to school to get a degree but in doing so, needs to quit his current job. The individual should consider not only the cost of tuition and books, but the income he forgoes by pursing a degree. This lost opportunity to make money, or opportunity cost, is the underlying purpose of calculating economic profit.
There are many variations when it comes to what you can use for your cash flows and discount rate in a DCF analysis. For example, free cash flows can be calculated as operating profit + depreciation + amortization of goodwill - capital expenditures - cash taxes - change in working capital. Although the calculations are complex, the purpose of DCF analysis is simply to estimate the money you'd receive from an investment and to adjust for the time value of money.
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