Business Calculations
Businesses need to consider the discount rate when deciding whether to spend some of their profits on buying a new piece of equipment, or whether to give the profit back to their shareholders. In an ideal world, they would only buy a piece of equipment if the shareholders would get a bigger profit later. The amount of extra profit that a shareholder requires in the future in order to prefer that the company buy the equipment rather than giving them the profit now is based on the shareholder's discount rate. There is a widely used way of estimating shareholder's discount rates using share price data. It is known as the capital asset pricing model. Businesses normally apply this discount rate to their decisions about purchasing equipment by calculating the net present value of the decision. Remember that when you are doing this that you need to check your answer.
Read more about this topic: Discount Rate
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