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ACCA Strategic Professional · Advanced Financial Management · International investment and financing decisions

A UK-based multinational is appraising a project in a foreign country using the adjusted present value (APV) method. Which discount rate is normally used to discount the base-case operating cash flows of the project?

The base-case cash flows in APV are discounted at the ungeared cost of equity that reflects the project's business risk, because the project is first valued as if all-equity financed. Financing side-effects are added afterwards, so using WACC would double count them.

  1. AThe project's cost of equity ungeared, reflecting only business riskCorrect
  2. BThe post-tax cost of debt used to finance the project
  3. CThe weighted average cost of capital of the parent company
  4. DThe risk-free rate adjusted for the exchange-rate difference

Explanation

APV first values the project as if all-equity financed, so the base-case flows are discounted at an ungeared cost of equity reflecting the project's business risk. Financing side-effects such as tax shields and subsidies are then added separately. Using the parent WACC would embed financing effects already, causing double counting.

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