Essay: The Discounting Factor

Sample Essay

The different time period of the two investors would be significant if the relative growth rate or expected dividends are different. If one investor expects a higher or lower growth rates in the later parts of the investment then this difference would have an impact on the present value of dividends resulting in a different stock price. Similarly if one investor expects high or low future dividends in the long run this too would significantly affect the present stock price and the current stock price would be different for both investors.

The discounting factor or discount rate is another factor affecting estimated current stock price. Cost of common stock is usually implemented as a discount rate for estimating the present value of expected future dividends. The cost of common stock is dependent on three variables which are the risk free rate, market risk premium and beta coefficient (Brigham & Ehrhardt, 2001). The cost of common stock can be estimated through the Capital Asset Pricing Model – CAPM using the following equation.

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