Discount factor

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Financial maths.

1.

(DF).

A discount factor is a number less than one, that we multiply a single future cash flow by, to work out its present value as:

PV = DF x future cashflow.


The periodic discount factor is calculated from the periodic yield as:

DF = (1 + periodic yield)-n


Commonly abbreviated as DF(n,r) or DFn,r

Where:

n = number of periods.

r = periodic yield (or periodic cost of capital).


Example 1: Discount factor calculation

Periodic yield or cost of capital (r) = 6%.

Number of periods in the total time under review (n) = 1.


Discount factor = (1 + r)-n

= 1.06-1

= 0.9434.


The greater the time delay, the smaller the Discount Factor.


Example 2: Increasing number of periods delay

Periodic yield or cost of capital = 6%.

The number of periods delay increases to 2.

Discount factor = (1 + r)-n

= 1.06-2

= 0.8890.

(A smaller figure than the 0.9434 we calculated previously for just one period's delay.)


2.

Historically, the yield or cost of capital used for the purpose of calculating Discount Factors, as defined above.

For example the 6% rate applied in definition 1. above.


See also