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    Discounting Technique

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    Suvash Regmi
    The document discusses the time value of money and discounting. It states that present values are better than future values due to uncertainty, present consumption, and investment opportunities. The process of finding the present worth of future cash flows is called discounting. Discounting converts future cash flows into their present value using a discount rate. Discounting allows for comparison of cash flows over time and evaluation of projects based on net present value, internal rate of return, or benefit-cost ratio.

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    Discounting Technique

    Uploaded by

    Suvash Regmi
    498 views9 pages
    The document discusses the time value of money and discounting. It states that present values are better than future values due to uncertainty, present consumption, and investment opportunities. The process of finding the present worth of future cash flows is called discounting. Discounting converts future cash flows into their present value using a discount rate. Discounting allows for comparison of cash flows over time and evaluation of projects based on net present value, internal rate of return, or benefit-cost ratio.

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    The document discusses the time value of money and discounting. It states that present values are better than future values due to uncertainty, present consumption, and investment opportunities. The process of finding the present worth of future cash flows is called discounting. Discounting converts future cash flows into their present value using a discount rate. Discounting allows for comparison of cash flows over time and evaluation of projects based on net present value, internal rate of return, or benefit-cost ratio.

    Copyright:

    © All Rights Reserved
    Download as PPTX, PDF, TXT or read online from Scribd
    Download as pptx, pdf, or txt
    498 views9 pages

    Discounting Technique

    Uploaded by

    Suvash Regmi
    The document discusses the time value of money and discounting. It states that present values are better than future values due to uncertainty, present consumption, and investment opportunities. The process of finding the present worth of future cash flows is called discounting. Discounting converts future cash flows into their present value using a discount rate. Discounting allows for comparison of cash flows over time and evaluation of projects based on net present value, internal rate of return, or benefit-cost ratio.

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    Time value of Money

    • A popular English proverb "a bird in hand is


    worth two in the bush".
    • present values are better than the same
    values in the future
    • “Earlier returns are better than later”.
    • If a person wanted to have money at present
    than future, then it is called time value of
    money.
    • It is because of (i) uncertainty (ii) present
    consumption (iii) investment opportunity.
    Discounting
    • The process of finding the present worth of a
    future value is called discounting.
    • The interest rate assumed for discounting is the
    discount rate.
    • the value of the present investment on future
    date is called compounding or future value of
    money whereas in discounting all cash flows can
    be brought to today’s value, instead of
    compounding n
    to future date. Mathematically, P =
    M ×(1/(1+r) )
    Where, P = present value of money, M = quantity
    of money at present
    n
    • discount factor = (1+r)
    • The most common means of doing this
    discounting process is to subtract year by year
    and the costs from the benefits to arrive at the
    incremental net benefit stream that is cash flow.
    • This approach will give one of three discounted
    cash flow measures of project worth:
    • NPW,
    • IRR or NBIR (Net Benefit Investment Ratio).
    • Another discounted measure of project worth is
    to find the present worth of the cost and benefit
    streams separately and to obtain benefit cost
    ratio.
    • Discounting is a process of converting a single
    future payment or series of future payments
    to the equivalent present worth.
    • For example, one year deferred payment of
    Rs. 100 is less than Rs. 100 at present. The
    present value and one year later value of
    Rs.100 depends on interest rate. Thus, as the
    longer time of deferred payment present
    value of money will be less and less.
    • . The computation of discount factor, DF (r/n):
    • DF (r/n) = 1/1+(r/100)n
    • Where, n = number of years hence that the
    payment will occur.
    • r = discount rate (%).
    • 2. Multiply the discount factor by the
    payment amount to get the present worth:
    • PW = payment  DF (r/n), P=present worth,
    Purpose

    • Discounting provides a basis for analyzing and


    comparing future streams of costs and
    benefits by reducing them to their equivalent
    present worth.
    Uses
    • Future payments, either single, a uniform series,
    or an irregular series can be converted to thir
    present worth by using discount factors
    computed from an appropriate discount rate.
    • The difference between payments made in the
    future can be translated into a constant discount
    rate to measure the preference for present as
    opposed to future benefits.
    • Discounting permits inclusion of time preference
    in analyzing the net value of a single project, and
    in comparing two or more projects with dissimilar
    time stream of costs and benefits.
    Advantage

    • Discounting provides a logical basis for comparing


    payments at various times. It facilitates the
    valuation of single project or a comparison
    between the projects.
    • Discounting puts more value on near term than
    on distant payments. Since more distant forecasts
    are generally less reliable than short term
    forecasts, discounting increases the degree of
    confidence that the analyst may have in his
    valuation.
    A hypothetical discount table of five years at 8% interest rate.
    Note: the more than 15% interest rate and 20 years period will
    not be considered in calculation.
    Calendar Amount One plus Amount at
    year at end of interest beginning of
    year rate year

    t5 2013 1,200  1.08  1,111

    t4 2012 1,111  1.08  1,029

    t3 2011 1,029  1.08  953

    t2 2010 953  1.08  882

    t1 2009 882  1.08  817

    t0 2008 817  1.08 

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