Relationship between discount rates to be applied to before-tax and after-tax cashflows.

Authors: B. Manley
Publication: New Zealand Journal of Forestry, Volume N.Z.J.For. 2002, Issue N.Z.J.For. 47(1) 2002, pp 28-32, May 2002
Publisher: New Zealand Institute of Forestry

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Abstract: This paper illustrates how there is no constant relationship between the discount rates to be applied to before-tax and after-tax cashflows in order to derive the same value for a stand or forest.

If all forestry revenues were immediately taxable and all forestry costs (including the purchase price) were immediately deductible then the "equivalent" discount rate to be applied to before-tax cashflows would equal that applied to after-tax cashflows; i.e. the same discount rate could be applied to either before-tax or after-tax cashflows and the same value would arise.

However the purchase price is not immediately deductible and must be carried forward and deducted against harvest revenues. Consequently the "equivalent" discount rate to apply to before-tax cashflows will be different to (and greater than) the discount rate to apply to after-tax cashflows to give the same value.

Stand-level and forest-level examples illustrate that, although there are general trends with age, there is no simple rule to find the discount rate to apply to before-tax cashflows which is equivalent to a given discount rate that is applied to after-tax cashflows. The "equivalent" discount rate to apply to before-tax cashflows is sensitive to the unique circumstances of each situation and the underlying assumptions made.

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