Group Member

 Rial Khan
 Hassan Khan
 Kaleemullah
 Presentation
On
“Best Practices” in Estimating the Cost of
Capital: An Update
 Overview
To learn how some of the most financially
sophisticated companies and financial advisors
estimate cost of capitals.
• Looking to develop new products.
• Expand factories.
• Install new information technology.
Cost of Capital;
Cost of capital is the cost of a company fund
(Debt, retained earning, equity etc.) used for the
financing the business.
 Abstract;
• There are many theories on cost of capital but
when practitioners apply it there many difficulties
faced by practitioners.
• That papers provide an update over current best
practices that emerge on cost of capital estimation.
• Sampling & Methodology.
Introduction;
• They provide evidence on how good companies &
financial advisor estimate their cost of capital.
• Those evidence important in three aspects.
1. Identify ambiguities in the application of cost of
capital theories.
2. Help to interested companies to keep it as a
benchmark.
3. How to estimate cost of capital accurately.
Section : Weight Average Cost of Capital
WACC is use to estimate the company cost of capital.
It provides the cost of capital in percentage.
WACC=Wd (1-t) Kd+(We Ke)
Section : Sample Selection
• Top level companies, financial advisor, Trading books.
• Conversation with practitioners.
• Telephone interview.
• Main focus on gap between finance theory & application
rather than average & typical practice.
Section : Survey Finding
• Similarity in all finding.
• DCF mostly used as a investment evaluation technique.
• WACC is used as a discount rate in DCF analysis.
• WACC weight is based on market value not on book value.
• Debt cost calculate after tax cost(1-t).
• CAPM is mostly used in estimate the cost of equity.
Question # 01, 02, 03, 07, 14, 21.
CAPM ( Capital asset pricing model):
It is a model that describe the relationship between
systematic risk and expected return.
It is use to calculate the required rate of return on
any asset.
K = Rf+B(Rm+Rt)
 Section : Risk Adjustments to WACC
• What is risk adjusted WACC.
• Attracting capital required that future return increase
with risk.
• Why do corporation risk adjust discount in some setting
different from other.
Section : Recent Institutional & Market development
• Some institutional and market forces affecting cost of
capital estimation.
• The art of cost of capital estimation and its use are part
of a larger process of management, not simply an
application of finance theory.
• In financial market condition the companies keep to
existing cost of capital estimation.
 Conclusions:
The purpose of the case is to find a best practice for
estimating the cost of capital. All companies have their
own method but there proved to be general consensus on
the estimation of WACC.
• Weight should be based market value mixes of debt
and equity.
• The after-tax cost of debt should be estimated from
marginal pretax costs, combined with marginal tax rate.
• CAPM to determine the cost of equity
• Betas are drawn sustainably from published sources.
• The risk-free rate is based on the US govt treasury bond
of ten or more years to maturity.
Market risk premium is the most controversial variable
with different value and method of estimation being
used.
WACC should be risk adjusted whether it is done by
adjusting the WACC or some other internal method