For a company which earns 10 Percent on its call account deposits,borrows longterm at 12 percent and its main investments are in the form of call account deposits,what will be the best DISCOUNT RATE to use in project evaluation NPV,as an alternative to using WACC? How can such a rate be justified?
The rate to use would be 12%.
In capital budgeting, we use the a discount rate to take care of the financing costs which are not included in the cash flows. When a project is being done, it needs capital and the capital needs to be serviced i.e., investors need to be compensated by repaying the borrowing as also giving a return on the invested capital. This rate which is the required return by the investors is used as the ...
The solution explains how to arrive at the correct discount rate to use for a project evaluation in calculating the NPV