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    I'll be sitting a finance exam soon and i'm slightly confused about the discount rate?

    In the exam, i'll be required to use an example of NPV which is fine. In the past i've just used a discount rate of 10% to show the varying NPV's of two projects.

    My question is, how does a business decide on what discount rate to apply to a project? Obviously, if you use a higher % it would result in a lower NPV?

    I may get a question on IRR which i believe is the same thing as the discount rate? I'm just a bit confused!

    Can anyone enlighten me? ^-^
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    IRR is the discount rate which results in NPV being zero after discounting all subsequent cash flows. A lower discount rate than IRR implies a positive NPV and so the project should be taken, whereas the opposite results in a negative NPV.

    The discount rate is essentially the opportunity cost of the initial investment. If for example you could've gotten 5% interest by putting your money elsewhere that has similar risk levels then your discount rate for this project would be 5%.
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    (Original post by x-Natalie-x)
    I'll be sitting a finance exam soon and i'm slightly confused about the discount rate?

    In the exam, i'll be required to use an example of NPV which is fine. In the past i've just used a discount rate of 10% to show the varying NPV's of two projects.

    My question is, how does a business decide on what discount rate to apply to a project? Obviously, if you use a higher % it would result in a lower NPV?

    I may get a question on IRR which i believe is the same thing as the discount rate? I'm just a bit confused!

    Can anyone enlighten me? ^-^
    A company will often use the WACC as the appropriate discount rate. If a project doesn't have a positive NPV at the WACC rate then you won't get a worthwhile return as you won't beat the costs incurred to source the capital invested in the project.

    As explained above the IRR is the discount rate that returns an NPV of zero.
 
 
 
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