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Forums › Ask ACCA Tutor Forums › Ask the Tutor ACCA AFM Exams › time discounting
The reason we do time discounting for money value is inflation. I just noticed that NPV calculations are done using cost of capital which is found purely based on systematic risk of the market and not considering any inflation. so, in effect it just evaluating that investment is returning above shareholder expectation and I didn’t find any reason for time based calculations.
No – the reason we discount is certainly not because of inflation!!!
We discount purely to account for the interest cost of money.
The nominal cost of capital will change with the general rate of inflation.
We either discount the nominal (actual) cash flows (after inflating them) at the nominal (actual) cost of capital, or alternatively we discount the real cash flows (i.e. at current prices ignoring inflation) at the real cost of capital (ignoring inflation).
This is explained in my free lectures (and it might be worth your while watching the relevant F9 lectures, because this is all revision of F9).