Discount rate
In one sentenceThe annual rate used to convert a future amount to its value today, usually reflecting the return you require or your cost of financing.
Simply put
When evaluating a project you divide each future cash flow by (1 + discount rate) raised to the number of years. The higher the rate, the lower the present value of distant cash flows.
Choosing the rate is an important decision: a riskier project deserves a higher rate. A reasonable starting point is the cost of capital or what your money could earn in a safe alternative.
Worked example
A supplier offers a store to receive 110,000 SAR after a year instead of an amount today, and the discount rate the store uses is 10%.
Future amount110,000 SAR
1 + discount rate1.1
Present value = 110,000 ÷ 1.1100,000 SAR
Formula: Present value = future amount ÷ (1 + discount rate)^number of years
Don't confuse it with
Trade discountA trade discount is a reduction in the selling price, while the discount rate here is a financial rate for converting amounts across time.