Estimation of Discount Rates for Assessing the Efficiency of Investment Projects in the Framework of Optimal Financial Asset Management

Abstract

Singled out for this study is a model of optimal asset management for a firm in a deterministic situation (i.e., given full information) that would allow to refine and modify a traditional definitions of discount rate as the highest rate of return on alternative investment opportunities. It is shown that, in general, the discount rate (determined as the rate of decline in the shadow price value of money in the optimal plan) is time-variable and depends not only on the general situation in the market, but also on the financial position of the planning firm. The constructed model provides opportunities for formulating the precise conditions for the financial feasibility of a project and justifying the structure of its efficiency criterion. It appears that the criterion of efficiency in question differs from the net present value (NPV) -- in addition to the discounted sum of cash flows from the project, it must take into account the market value of fixed assets created under the project. We also consider the accounting issues of inflation, uncertainty and risk in evaluating the effectiveness of the project and setting the discount rate.