Need Help in Chapter 11

[omarnajeeb]

Hi Guys,

This is my first post on this forum. I am sure that most of you will be really busy with revision for the coming exams. Actually, I am writing because I need a little help in Chapter 11 of CT5. This is one paragraph in that chapter which I just can't get my head round. The Paragraph I am writing about is on Page 21, third paragraph. But I am writing the paragraph below as well:

"The greater the extent that the pricing assumption reduce the expected future profit flow in the profit test, the greater will be the reduction in the present value of profits. The assumed investment return in the pricing basis would be normally, by the definition of risk discount rate, be less then that risk discount rate and lower assumptions lead to lower present value of profits."

If you have any idea what this bit is talking about then please let me know. Thank You.

Omar

 

[omniscientbeing]

As no one else has replied and I don't feel like studying my other subjects I'll have a go.

I don't think that paragraph is meant to be tricky, the one after that is a lot more interesting.

Paragraph 3 seems to be pretty much saying two things:

1)if you choose a basis which reduces future profit, the PV of profit will also be reduced, and

2)if you reduce the investment return, you'll reduce your profit.