台湾大学：《财务管理》（英文版）Chapter 11 The Cost of Capital

Fundamentals of Corporate Finance Third edition Chapter 11 The Cost of Brealey Myers Marcus Capital ndamentals of Corporate Finan Brealey Myers Marcus slides by Matthew will IrwinMcGraw-Hill CThe McGraw-Hill Companies, Inc, 2001

©The McGraw-Hill Companies, Inc.,2001 11- 1 Irwin/McGraw-Hill Chapter 11 Fundamentals of Corporate Finance Third Edition The Cost of Capital Brealey Myers Marcus slides by Matthew Will Irwin/McGraw-Hill ©The McGraw-Hill Companies, Inc.,2001

11-2 Topics Covered gEothermal,s Cost of Capital S Weighted Average Cost of Capital (WACC) CApital Structure REquired rates of return SBig Oils WacC INterpreting wacc FLotation Costs Irwin/McGraw-Hill CThe McGraw-Hill Commpanies, Inc, 2001

©The McGraw-Hill Companies, Inc.,2001 11- 2 Irwin/McGraw-Hill Topics Covered Geothermal’s Cost of Capital Weighted Average Cost of Capital (WACC) Capital Structure Required Rates of Return Big Oil’s WACC Interpreting WACC Flotation Costs

11-3 Cost of Capital Cost of Capital- The return the firms investors could expect to earn if they invested in securities with comparable degrees of risk Capital Structure-The firms mix of long term financing and equity financing Irwin/McGraw-Hill CThe McGraw-Hill Commpanies, Inc, 2001

©The McGraw-Hill Companies, Inc.,2001 11- 3 Irwin/McGraw-Hill Cost of Capital Cost of Capital - The return the firm’s investors could expect to earn if they invested in securities with comparable degrees of risk. Capital Structure - The firm’s mix of long term financing and equity financing

11-4 Cost of Capital Example Geothermal Inc has the following structure. Given that geothermal pays 8% for debt and 14% for equity, what is the Company cost of Capital? Irwin/McGraw-Hill CThe McGraw-Hill Commpanies, Inc, 2001

©The McGraw-Hill Companies, Inc.,2001 11- 4 Irwin/McGraw-Hill Cost of Capital Example Geothermal Inc. has the following structure. Given that geothermal pays 8% for debt and 14% for equity, what is the Company Cost of Capital?

11-5 Cost of Capital Example-Geothermal Inc has the following structure. Given that geothermal pays 8%for debt and 14% for equity, what is the Company Cost of Capital? Market Value Debt $194 30% Market Value Equity $453 70% Market Value Assets $647 100% Irwin/McGraw-Hill CThe McGraw-Hill Commpanies, Inc, 2001

©The McGraw-Hill Companies, Inc.,2001 11- 5 Irwin/McGraw-Hill Cost of Capital Example - Geothermal Inc. has the following structure. Given that geothermal pays 8% for debt and 14% for equity, what is the Company Cost of Capital? Market Value Assets $647 100% Market Value Equity $453 70% Market Value Debt $194 30%

11-6 Cost of Capital Example-Geothermal Inc has the following structure. Given that geothermal pays 8%for debt and 14% for equity, what is the Company Cost of Capital? Portfolio Return=(3x8%0)+(7x14%0)=12.2% Irwin/McGraw-Hill CThe McGraw-Hill Commpanies, Inc, 2001

©The McGraw-Hill Companies, Inc.,2001 11- 6 Irwin/McGraw-Hill Cost of Capital Example - Geothermal Inc. has the following structure. Given that geothermal pays 8% for debt and 14% for equity, what is the Company Cost of Capital? Portfolio Return = (.3x8%) + (.7x14%) =12.2%

11-7 Cost of Capital Example-Geothermal Inc has the following structure. Given that geothermal pays 8%for debt and 14% for equity, what is the Company Cost of Capital? Portfolio Return=(3x8%)+(7x14%)=12.2% Interest is tax deductible. Given a 35% tax rate, debt only costs us 5.2%o(1.e 8%x 65) WACC=(3x52%)+(.7x149)=11.49 Irwin/McGraw-Hill CThe McGraw-Hill Companies, Inc, 2001

©The McGraw-Hill Companies, Inc.,2001 11- 7 Irwin/McGraw-Hill Cost of Capital Example - Geothermal Inc. has the following structure. Given that geothermal pays 8% for debt and 14% for equity, what is the Company Cost of Capital? Portfolio Return = (.3x8%) + (.7x14%) =12.2% Interest is tax deductible. Given a 35% tax rate, debt only costs us 5.2% (i.e. 8 % x .65). WACC= (.3x5.2%) + (.7x14%) =11.4%

11-8 WACC Weighted Average Cost of Capital (Wacc) The expected rate of return on a portfolio of all the firm's securities Company cost of capital= Weighted average of debt and equity returns Irwin/McGraw-Hill CThe McGraw-Hill Companies, Inc, 2001

©The McGraw-Hill Companies, Inc.,2001 11- 8 Irwin/McGraw-Hill WACC Weighted Average Cost of Capital (WACC) - The expected rate of return on a portfolio of all the firm’s securities. Company cost of capital = Weighted average of debt and equity returns

11-9 WACC total income assets value of investments (D X Debt)+(EXr equity assets assets B X Tdeb )+ X equil Irwin/McGraw-Hill CThe McGraw-Hill Commpanies, Inc, 2001

©The McGraw-Hill Companies, Inc.,2001 11- 9 Irwin/McGraw-Hill WACC r assets (D x r ) + (E x r ) V debt equity = r assets ( x r ) ( x r ) D V debt E = + V equity rassets = total income value of investments

11-10 WACC Three Steps to Calculating Cost of capital 1. Calculate the value of each security as a proportion of the firms market value 2. Determine the required rate of return on each securi 3. Calculate a weighted average of these required returns Irwin/McGraw-Hill CThe McGraw-Hill Commpanies, Inc, 2001

©The McGraw-Hill Companies, Inc.,2001 11- 10 Irwin/McGraw-Hill WACC Three Steps to Calculating Cost of Capital 1. Calculate the value of each security as a proportion of the firm’s market value. 2. Determine the required rate of return on each security. 3. Calculate a weighted average of these required returns