What return should you demand — and where does it come from?

A forecast of cash is only half a DCF. The other half is the discount rate — the return you demand for taking the risk of owning this business. Get the intuition right and the arithmetic follows. We'll skip the algebra fetish and keep the why.

The rate is a required return

A discount rate isn't a magic constant — it's the return an owner should require to bother holding a risky asset instead of a safe one. Two ingredients build it:

• The safe rate — what a near risk-free government bond pays. This is the floor; no risky asset should be discounted at less.
• A risk premium — the extra return you demand on top, for the chance that this company's cash disappoints. Riskier, more uncertain businesses carry a bigger premium.

A steady utility might justify a 7% required return; a volatile, unproven company might warrant 12% or more. Higher risk → higher demanded return → harder discounting → lower value, all else equal. That's the whole mechanism.

Two financiers, two costs

A company is funded by two groups, each demanding its own return:

• Cost of equity — what shareholders require. It's higher, because owners are last in line if things go wrong and bear the most uncertainty.
• Cost of debt — what lenders charge in interest. It's lower, because lenders are paid first and often hold security. Interest is also usually tax-deductible, which quietly lowers the effective cost of debt.

These aren't equal, and they aren't independent of each other — which is exactly why the next lesson blends them.

A note on the famous formula

You may have heard that the cost of equity comes from a model called CAPM (a safe rate plus "beta" times a market premium). It's a useful scaffold, but don't fetishise its algebra — beta is noisy, the market premium is debated, and a confidently wrong CAPM number is still wrong. Use it to reason about risk (more cyclical → higher required return), not as an oracle. The honest goal is a sensible, defensible required return, not a false-precise one.

Two inputs need a named source before the rate is defensible. The market premium in the cost of equity is the largest single judgement in a WACC, and it is a choice, not a number you look up: state the figure you used and where it came from. Public, dated estimates exist; Damodaran publishes an implied US equity risk premium monthly, and it is the reference most practitioners cite. The cost of debt is what the company would pay to borrow today, read from the yield on its bonds or from the safe rate plus a spread for its rating. Last year's interest expense over last year's debt is the historical coupon, and it understates the cost whenever rates have risen since the debt was issued.

In the data

The floor under every discount rate, the US 10-year Treasury yield, as a live series. This is a yield, not a price: a value of 4.674 means 4.674%.

But "the risk-free rate" is a choice before it is a number. The Treasury publishes a yield for fourteen maturities every day, from one month to thirty years. Three of them from the latest day, the two ends and the 10-year:

The risk side is published too, as a single beta figure. It states neither the window it was measured over nor the index it was measured against, which is why two sources quote different betas for the same company.

Try it now

1. Read the current level off the right edge of the chart. That is your safe-rate floor: no risky asset should be discounted at less. Then look left and notice how far it has travelled in five years — the floor moves, so a WACC computed two years ago is not a WACC.
2. In the curve table, the spread between the shortest and the longest maturity is the range you could honestly call risk-free, and picking a point inside it is a decision you should be able to defend out loud.
3. Read Apple's beta, then write down the two things you would need before quoting it to anyone. The section above names both, and neither is in the table. Look up the same company's beta on any other financial site and compare the two figures: the gap is those missing two things, made visible.
4. For the cost of debt, look for the interest a company actually pays: interest expense from the income statement over total debt from the balance sheet. A telecom first:

Then Apple, on the same income statement lines:

One of the two gives you a usable numerator. Utilities, telecoms and industrials usually report interest expense separately; cash-rich technology names often do not, and Apple is one of them. Knowing which kind of company you are looking at tells you whether this route to the cost of debt is open at all. 5. Ask where the equity return should sit: clearly above the safe rate you read off the chart, and above what lenders charge. Name a plausible range in one sentence — you are now reasoning about discount rates like a practitioner.