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Simplified Discounting Rules In Binomial Models

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  • Frank Richter

Abstract

In capital budgeting it is common practice to discount expected cash flows with a constant risk adjusted discount rate. This discount rate often is derived on the basis of the capital asset pricing model. Within this paper sufficient conditions for supporting this discounting rule will be reviewed and its relation to option pricing theory will be clarified. The analysis is based on a joint binomial model for cash flows and market rates of return. The results show that if the analysis is based on a joint binomial model, the restrictive assumptions of the capital asset pricing model can be relaxed.

Suggested Citation

  • Frank Richter, 2001. "Simplified Discounting Rules In Binomial Models," Schmalenbach Business Review (sbr), LMU Munich School of Management, vol. 53(3), pages 175-196.
  • Handle: RePEc:sbr:abstra:v:53:y:2001:i:3:p:175-196
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    Cited by:

    1. Streitferdt, Felix, 2003. "Unternehmensbewertung mit dem WACC-Verfahren bei konstantem Verschuldungsgrad," Manuskripte aus den Instituten für Betriebswirtschaftslehre der Universität Kiel 574, Christian-Albrechts-Universität zu Kiel, Institut für Betriebswirtschaftslehre.

    More about this item

    JEL classification:

    • G12 - Financial Economics - - General Financial Markets - - - Asset Pricing; Trading Volume; Bond Interest Rates
    • G31 - Financial Economics - - Corporate Finance and Governance - - - Capital Budgeting; Fixed Investment and Inventory Studies
    • G32 - Financial Economics - - Corporate Finance and Governance - - - Financing Policy; Financial Risk and Risk Management; Capital and Ownership Structure; Value of Firms; Goodwill

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