Page 202 - Microsoft Word - 00 CIMA F1 Prelims STUDENT 2018.docx

Chapter 14

Which discount rate to use?

7.1 Basic ideas

 Any discount rate should reflect project business risk and project financial
gearing.

 Two key questions must thus be asked.

– Does the project have a different level of business risk to the company?

– Will the finance package chosen change the overall gearing level and
hence the gearing risk of the company? For example, using just equity or
just debt is likely to change the overall gearing level.

 There are four possible outcomes.
Project business risk

Same as company Different

Use existing Calculate a project-

Constant company WACC as a specific risk-adjusted
Impact gearing discount rate WACC
of
Project
finance

Change in Adjusted present Adjusted present

gearing value value

 Each of these is discussed below.

192