Risk Adjustment Equations

 

 

 = the expected cash flow in period t

= the certainty equivalent factor that converts the expected risky cash flow into its perceived certainty equivalent factor

i = the risk free interest rate that is assumed to remain constant over the life of the project

n = the life of the project in years

 

 

Risk adjusted rate (RAR)

 

 

 = the Risk Adjusted Discount Rate

i = the risk free rate

u = adjustment for the firm’s normal risk

a =  adjustment for risk is greater of less than the firm’s normal risk level