Discount rate: Difference between revisions
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<onlyinclude>The discount rate is the interest rate | <onlyinclude>The discount rate is the interest rate firms use to determine how much a future cash flow is worth in the present.The practice of using the discount rate to evaluate cash flows is called [[discounting]].</onlyinclude><ref>R. A. Brealey et al. ''Fundamentals of Corporate Finance''. Toronto: McGraw-Hill Ryerson, 2012, pp. 85.</ref><ref name=Rout_econ>"Routledge Dictionary of Economics", discount rate, published Routledge Press, 2013. Edited by Donald Rutherford Online version accessed [August 17th, 2017].</ref> | ||
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Revision as of 19:37, 15 July 2026
The discount rate is the interest rate firms use to determine how much a future cash flow is worth in the present.The practice of using the discount rate to evaluate cash flows is called discounting.[1][2]
Using the discount rate, the calculation finds the present value:
- Present value =
- = Period of time measured in years
- = The discount rate (interest rate) expressed as a decimal
- The future value after the whole period of time ()
If the future value after one year is $10,500 and the discount rate is 5% then:
- Present value =
- Present value = $10,000
If a consumer wants to save their money to earn interest so they can buy a new TV in 2 years, then they can use the price of the TV ($2,500, assuming it does not change) and find out how much money they need to save at 7% interest:
- Present value =
- Present value = $2,183.59
If they put $2,183.59 away at 7% interest over 2 years then they will have the right amount of money to buy the TV they want.