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The Cost of Capital: Sources of Capital Component Costs Wacc Adjusting For Flotation Costs Adjusting For Risk
The Cost of Capital: Sources of Capital Component Costs Wacc Adjusting For Flotation Costs Adjusting For Risk
CHAPTER 10
The Cost of Capital
Sources of capital
Component costs
WACC
Adjusting for flotation costs
Adjusting for risk
Long-Term
Capital
0 1 2 30
i=? ...
-1,153.72 60 60 60 + 1,000
Dp $10
kp
0.090 9.0%.
Pp $111.10
0
kp = ?
1 2
...
-111.1 2.50 2.50 2.50
DQ $2.50
$111.10 = k = kPer .
Per
$2.50
kPer = $111.10 = 2.25%;
k = 2.25%(4) = 9%.
p(Nom)Inc.
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10 - 13
Note:
Example:
kp = 9% kd = 10% T = 40%
kp, AT = kp – kp (1 – 0.7)(T)
= 9% – 9%(0.3)(0.4) = 7.92%.
kd, AT = 10% – 10%(0.4) = 6.00%.
A-T Risk Premium on Preferred = 1.92%.
D1 D0(1 + g)
k s = P0 + g = P0 +g
$4.19(1.05)
= $50 + 0.05
= 0.088 + 0.05
= 13.8%.
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10 - 23
g = (1 – Payout)(ROE) = 0.35(15%)
= 5.25%.
ks = kd + RP
Method Estimate
CAPM 14.2%
DCF 13.8%
kd + RP 14.0%
Average 14.0%
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10 - 28
D0(1 + g)
ke = +g
P0(1 – F)
$4.19(1.05)
= + 5.0%
$50(1 – 0.15)
$4.40
= + 5.0% = 15.4%.
$42.50
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10 - 31
Market conditions.
The firm’s capital structure and
dividend policy.
The firm’s investment policy. Firms
with riskier projects generally have a
higher WACC.
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10 - 34
Company WACC
Intel 12.19%
General Electric 12.47
Motorola 11.65
Coca-Cola 12.31
Walt Disney 9.28
AT&T 9.22
Wal-Mart 10.99
Exxon Mobil 8.16
H. J. Heinz 7.78
BellSouth 7.41
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10 - 35
WACC
12.0 H
Risk
0 RiskL RiskA RiskH
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10 - 37
Project H
11.0
10.0
Composite WACC
9.0 Project L
for Firm A
Risk
0 RiskL RiskAverage RiskH
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10 - 38
Stand-alone risk
Corporate risk
Market risk