sabaruch

Joe Bates, CFA, has prepared a schedule of real cash flows for his company’s plant expansion. Bates generally uses the weighted average cost of capital to discount such cash flows, but in order to accurately determine the present value of those real cash flows, he should adjust the discount rate to reflect:

A) expected inflation.

B) the company’s cost of both debt and equity.

C) expected changes in the market growth rate.

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In the context of cash flows, “real” refers to inflation-adjusted cash flows. The weighted average cost of capital already takes the cost of both debt and equity into account, but this is a nominal, not a real, discount rate. The market’s growth rate is rarely relevant to cash flows to the firm and is not part of the WACC calculation.

sabaruch

Cash flows to the firm should be discounted at the:

A) market’s estimated rate of return.

B) firm’s weighted average cost of capital.

C) rate determined by the capital asset pricing model.

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The weighted average cost of capital is the preferred discount rate for cash flows to the firm, as it reflects the cost of both debt and equity.