Evaluate of risk-adjusted discount rate, Financial Management

Assignment Help:

Q. Evaluate of Risk-Adjusted Discount Rate?

Illustration: - From the following date state which project is preferable:

Year

Project A

Project B

1

60000

60000

2

50000

60000

3

40000

50000

Initial Cost of the Project1

120000

120000

Riskless discount rate is 5%. Project A is fewer risky as compared to project B and therefore the management considers risk premium rates at 5% and 10% respectively as appropriate for discounting the cash inflow. The discount factors at 10% and 15% are given below

Year

10%

15%

1

0.909

0.876

2

0.826

0.756

3

0.751

0.650

Solution :-

First Step :- Computation of Risk-Adjusted Discount Rate

For Project A:

Riskless Discount Rate                                               5%

And Risk-Premium Rate                                             5%

Risk Adjusted Discount Rate                                                 10%

For Project B:

Riskless Discount Rate                                               5%

And Risk-Premium Rate                                             10%

Risk Adjusted Discount Rate                                                 15%

Second Step: - Computation of Discounted Cash Inflows (that is Present Value and Net Present Value of the Projects)

Year

Project A Discounted Cash Inflows at 10%

Project B

 

 

Cash Inflows (Rs)

Discount Factor 10%

Present Value (Rs.) (Cash Inflow x Discount Factor)

Cash Inflows (Rs)

Discount Factor 15%

Present Value (Rs.) (Cash Inflow x Discount Factor)

1

60000

.909

54540

80000

.876

70080

2

50000

.826

41300

60000

.756

45360

3

40000

.751

30040

50000

.650

32500

PV of Cash Inflow                      125880                                                                    147940

Less: PV of Cash Outflow          120000                                                                   120000

Net Present Value                       5880                                                                       27940

Comments: - The Net Present Value of Project B is superior to that of Project A. Therefore Project B is Preferable.


Related Discussions:- Evaluate of risk-adjusted discount rate

Tax consideration affect cost of debt and cost of equity, How do tax consid...

How do tax considerations affect the cost of debt and the cost of equity? As interest on debt is tax deductible to the issuing firm, as much higher the tax rate the lower the aft

Walters and gordon model, Following are the details relating to three compa...

Following are the details relating to three companies which are identical in terms of ''r'' ABC ltd MNC ltd XYZ ltd Cost of capital

Consolidations of merger - amalgamation, Consolidations of Merger - amalgam...

Consolidations of Merger - amalgamation A consolidation is a combination of two or more companies into a new company. In this form of merger all the existing companies which co

Cash flow yield analysis, A cash-flow yield is the discount r...

A cash-flow yield is the discount rate that makes the price of a mortgage-backed or asset-backed security equal to the present value of its ca

Market versus capital market, For what kinds of needs do you think a firm w...

For what kinds of needs do you think a firm would issue securities in the money market versus the capital market?

Financial analysis for anthony''s orchard, The Final Project for this modul...

The Final Project for this module is a consultancy report to Anthony’s Orchard, an expanding apple orchard and distributor. The company has been entertaining the idea of expanding

Valuation models, V aluation Models A valuation model defines the e...

V aluation Models A valuation model defines the exercise of applying financial and economic principles to estimate the value of an asset. Discounted cash flow valuation mod

Types of financial investments, Question: (a) Give the four main types...

Question: (a) Give the four main types of financial investments and state the risks and bene ts associated to each type. (b) (i) Let k(t; T; s) denotes the return at time t

Currency swap, How exchange of principal and interest in one currency? E...

How exchange of principal and interest in one currency? Expalin

Manage an assignment, Manage a project or clearly defined piece of work fro...

Manage a project or clearly defined piece of work from beginning to end. This may include setting up a budgetary system.

Write Your Message!

Captcha
Free Assignment Quote

Assured A++ Grade

Get guaranteed satisfaction & time on delivery in every assignment order you paid with us! We ensure premium quality solution document along with free turntin report!

All rights reserved! Copyrights ©2019-2020 ExpertsMind IT Educational Pvt Ltd