Discount Rate

Discount Rate: The discount rate is the Interest Rate used to determine the present value of future Cash Flows. It reflects the Opportunity Cost of Investing Capital elsewhere and accounts for the time value of Money. A higher discount rate indicates higher risk or lower present value of future Cash Flows, while a lower discount rate suggests lower risk and higher present value.

Examples:

• If an investor expects to receive $1,000 in 5 years and uses a discount rate of 5%, the present value is calculated as: PV = $1,000 / (1 + 0.05)^5 = $783.53.
• In a corporate finance context, a company might use a discount rate of 10% for evaluating a new project, meaning future cash inflows must exceed this rate to be considered worthwhile.

Cases:

• In real estate, appraisers might use a discount rate of 7% to estimate the present value of expected rental income from a property.
• For Pension funds, a lower discount rate may be used to estimate future liabilities, which increases the estimated present value of those liabilities, reflecting a more conservative approach.