To riskier projects will use higher riskier higher

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Unformatted text preview: kier higher risk-adjusted discount rates. risk-adjusted Calculate NPV using the new riskadjusted discount rate. Risk-Adjusted Discount Rate n NPV = Σ t=1 ACFt ACF t - IO (1 + k*) (1 k* Risk-Adjusted Discount Rate How do we determine the How appropriate risk-adjusted discount rate (k*) to use? (k*) Many firms set up risk classes to Many risk categorize different types of projects. projects. Risk Classes Risk Risk RADR Risk Class (k*) Class 1 12% 12% 2 3 4 14% 16% 16% 24% 24% Project Type Replace equipment, Expand current business Expand Related new products Unrelated new products Research & Development Summary: Risk and Summary: Capital Budgeting Capital You can adjust your capital budgeting You methods for projects having different levels of risk by: of Adjusting the discount rate used (riskAdjusting discount adjusted discount rate method), Measuring the project’s systematic risk, Computer simulation methods, Scenario analysis, Sensitivity analysis....
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