Opportunity Cost of Capital

Opportunity Cost of Capital - 264 8 Practical Issues in the...

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Unformatted text preview: 264 8 Practical Issues in the Evaluation of Projects (iii) Capital loss A capital loss occurs when the asset is sold for a price for less than the book value. Thus, the capital loss, cl t , is given by the following expression: cl t = B t S (8.15) Like capital gains, capital losses are difficult to predict, and are seldom included in the project financials. The tax rates for capital gains may be different to that for ordinary income. As a first approximation, it is sufficient to assume that capital gains and losses are taxed at the companys effective tax rate. This means that the taxable income can be ex- pressed as follows: Taxable income = s t c t d t + cg t cl t + dr t (8.16) The tax is simply the taxable income multiplied by the tax rate. 8.4 Choice of the Discount Rate The calculation of the net present value and the other discounted cash flow tech- niques require a value for the discount rate. The choice of a value for the discount rate is essentially a strategic function and is done from the viewpoint of the entire or- ganisation. In large organisations, the calculation of the discount rate is done by the corporate finance or financial planning department, and prescribed to the projects departments in different divisions. The results generated by using the discount cash flow techniques are sensitive to the value of the discount rate used, and, as a result, it is important to understand the concepts behind the calculation of the discount rate. Terms such as the cost of capital and the hurdle rate are often used interchange- ably with the discount rate. In addition, there are other terms in use, such as the min- imum attractive rate of return (MARR), and the risk-adjusted discount rate (RADR)....
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This note was uploaded on 12/07/2011 for the course CIVL 4111 taught by Professor Moore,l during the Fall '08 term at U. Memphis.

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Opportunity Cost of Capital - 264 8 Practical Issues in the...

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