Determining Cost of Capital : The Key to Firm Value

by Johnson, Hazel

• ISBN13: 9780273638803
• ISBN10: 0273638807
• Format: Paperback
• Copyright: 1999-12-01
• Publisher: Financial Times Prentice Hall

Summary

How many vital corporate decisions are based on educated guesses and corporate rules-of-thumb?  Effective executive decisions demand a more robust framework of analysis.   Making the right decision about major capital investments depends in large measure on the firm's cost of capital.  An investment in property, equipment or another company is advisable if the investment will earn the cost of capital.  If the investment does not clear this hurdle rate, the value of the firm will decline.  The correct assessment of the cost of capital is one of the most critical management decisions.   Determining Cost of Capital helps managers identify each source of capital and to differentiate these sources.   The books answers several critical questions: What are the factors that attract a firm's cost of capital in the case of each supplier of capital?  How does a change in the cost of capital affect the selection of capital projects?  How is risk and uncertainty incorporated into the cost of capital?   Both the book and accompanying software are designed to be a ready resource to support management efforts in maximising the value of the firm.

Table of Contents

Foreword.
1. What Is Capital?

Introduction. Intermediate Debt. Long-term Debt. Equity Capital. Public versus Private Placement. Facilitating Growth of the Firm.

2. Why The Cost Of Capital Is Important and How It Is Managed.

Introduction. Decisions that Affect the Suppliers of Capital. The Impact of Optimal Decisions. Bond Ratings and the Cost of Capital. Securitization and the Cost of Capital. Attention to the Cost of Capital. Securitization: Managing Credit Risk.

3. Computing The Cost Of Capital.

Introduction. Conditions that Influence the Cost of Capital. Sources of Information for the Cost of Capital. Bishop Manufacturing and the Book Value of Capital. The Market Value of Capital. The Cost of Capital for Bishop Manufacturing Company.

4. When The Cost Of Capital Changes.

Introduction. The WACC Schedule. The Investment Opportunity Schedule. The Optimal Capital Budget. A Dynamic Process.

5. Risk, Capital Projects, and Portfolio Theory.

Introduction. Expected Net Present Value. Certainty Equivalents and Risk Preference. Decision-tree Analysis with a Constant Cost of Capital. The Abandonment Decision with Constant Cost of Capital. Sensitivity Analysis. Portfolio Theory and the Cost of Capital. Computing Portfolio Parameters. Capital Asset Pricing Model: A Model for Cost of Capital. Managing Risk in Capital Projects: A Summary.

Appendix A: The Mathematics of Uncertainty.

Introduction. Expected Rate of Return. Variability of Return. Risk and Return: A Summary.

Appendix B: Present Value and Future Value Factors.
Future Value of $1. Future Value of an Annuity of $1. Present Value of $1. Present Value of an Annuity of $1.
Appendix C: Cost of Equity for a Privately Held Firm.

Capital Asset Pricing Model. Beta of Assets and Equity. Example of a Single Industry. Example of Multiple Industries.

Index.