Discounting & Alternative Investment Criteria

Question 1

Choosing the appropriate discount rate is critical because

Answer 1

of the fact that a small variation in its value may significantly change the results of the analysis and affect the final choice of a project.

Question 2

The discount rate

Answer 2

is the opportunity cost of funds that are invested in the project. In financial analysis, the discount rate depends on the viewpoint of the analysis (desired return on equity or a weighted average cost of capital).

Question 3

When an economic analysis of a project is being conducted

Answer 3

the relevant discount rate is the economic opportunity cost of capital for the country.

Question 4

NPV or net present value

Answer 4

The algebraic sum of the present values of the expected incremental Net Cash Flow (NCF) over the project’s life (n)

Question 5

NPV measures

Answer 5

the change in wealth created by the project

Question 6

NPV = 0

Answer 6

investors can expect to recover their incremental investment and to earn a rate of return on their capital equal to the private cost of funds (r). There is no change in wealth.