1、15-1 Pearson Education Limited 2004Fundamentals of Financial Management,12/eCreated by:Gregory A.Kuhlemeyer,Ph.D.Carroll College,Waukesha,WI第1页，共51页。15-2Explain how a firm creates value and identify the key sources of value creation.Define the overall“cost of capital”of the firm.Calculate the costs
2、of the individual components of a firms cost of capital-cost of debt,cost of preferred stock,and cost of equity.Explain and use alternative models to determine the cost of equity,including the dividend discount approach,the capital-asset pricing model(CAPM)approach,and the before-tax cost of debt pl
3、us risk premium approach.Calculate the firms weighted average cost of capital(WACC)and understand its rationale,use,and limitations.Explain how the concept of Economic Value Added(EVA)is related to value creation and the firms cost of capital.Understand the capital-asset pricing models role in compu
4、ting project-specific and group-specific required rates of return.第2页，共51页。15-3 Creation of Value Overall Cost of Capital of the Firm Project-Specific Required Rates Group-Specific Required Rates Total Risk Evaluation第3页，共51页。15-4Growthphase ofproductcycleBarriers tocompetitiveentryOther-e.g.,patent
5、s,temporarymonopolypower,oligopolypricingCostMarketingandpricePerceivedqualitySuperiororganizationalcapability第4页，共51页。15-5Cost of Capital is the required rate of return on the various types of financing.The overall cost of capital is a weighted average of the individual required rates of return(cos
6、ts).第5页，共51页。15-6Type of Financing Mkt ValWeightLong-Term Debt$35M 35%Preferred Stock$15M 15%Common Stock Equity$50M 50%$100M 100%第6页，共51页。15-7is the required rate of return on investment of the lenders of a company.ki=kd(1-T)P0=Ij+Pj(1+kd)jS Snj=1第7页，共51页。15-8Assume that Basket Wonders(BW)has$1,000
7、 par value zero-coupon bonds outstanding.BW bonds are currently trading at$385.54 with 10 years to maturity.BW tax bracket is 40%.$385.54=$0+$1,000(1+kd)10第8页，共51页。15-9(1+kd)10 =$1,000/$385.54=2.5938(1+kd)=(2.5938)(1/10)=1.1 kd=.1 or 10%ki=10%(1-.40)=第9页，共51页。15-10is the required rate of return on i
8、nvestment of the preferred shareholders of the company.kP=DP/P0第10页，共51页。15-11Assume that Basket Wonders(BW)has preferred stock outstanding with par value of$100,dividend per share of$6.30,and a current market value of$70 per share.kP=$6.30/$70=第11页，共51页。15-12第12页，共51页。15-13 The,ke,is the discount r
9、ate that equates the present value of all expected future dividends with the current market price of the stock.D1 D2 D(1+ke)1 (1+ke)2 (1+ke)+.+P0=第13页，共51页。15-14 The reduces the model to:ke=(D1/P0)+gAssumes that dividends will grow at the constant rate“g”forever.第14页，共51页。15-15Assume that Basket Won
10、ders(BW)has common stock outstanding with a current market value of$64.80 per share,current dividend of$3 per share,and a dividend growth rate of 8%forever.ke=(D1/P0)+gke=($3(1.08)/$64.80)+.08=.05+.08=or 第15页，共51页。15-16 D0(1+g1)t Da(1+g2)t-a(1+ke)t (1+ke)tP0=The S S+S St=1at=a+1bt=b+1 Db(1+g3)t-b(1+
11、ke)t+S S第16页，共51页。15-17 The cost of equity capital,ke,is equated to the required rate of return in market equilibrium.The risk-return relationship is described by the Security Market Line(SML).ke =Rj=Rf+(Rm-Rf)b bj第17页，共51页。15-18Assume that Basket Wonders(BW)has a company beta of 1.25.Research by Ju
12、lie Miller suggests that the risk-free rate is 4%and the expected return on the market is 11.2%ke =Rf+(Rm-Rf)b bj=4%+(11.2%-4%)1.25 =4%+9%=第18页，共51页。15-19 The cost of equity capital,ke,is the sum of the before-tax cost of debt and a risk premium in expected return for common stock over debt.ke =kd+R
13、isk Premium*Risk premium is not the same as CAPM risk premium第19页，共51页。15-20Assume that Basket Wonders(BW)typically adds a 3%premium to the before-tax cost of debt.ke =kd+Risk Premium=10%+3%=第20页，共51页。15-21Constant Growth ModelCapital Asset Pricing ModelCost of Debt+Risk Premium Generally,the three
14、methods will not agree.第21页，共51页。15-22Cost of Capital=kx(Wx)WACC=.35(6%)+.15(9%)+.50(13%)WACC=.021+.0135+.065 =.0995 or 9.95%S Snx=1第22页，共51页。15-23Marginal Capital CostsCapital Raised in Different Proportions than WACC第23页，共51页。15-24are the costs associated with issuing securities such as underwriti
15、ng,legal,listing,and printing fees.a.Adjustment to Initial Outlayb.Adjustment to Discount Rate第24页，共51页。15-25A measure of business performance.It is another way of measuring that firms are earning returns on their invested capital that exceed their cost of capital.Specific measure developed by Stern
16、 Stewart and Company in late 1980s.第25页，共51页。15-26EVA=NOPAT Cost of Capital x Capital EmployedSince a cost is charged for equity capital also,a positive EVA generally indicates shareholder value is being created.Based on Economic NOT Accounting Profit.NOPAT net operating profit after tax is a compan
17、ys potential after-tax profit if it was all-equity-financed or“unlevered.”第26页，共51页。15-27Add Flotation Costs(FC)to the Initial Cash Outlay(ICO).Impact:the NPVNPV=S Snt=1CFt(1+k)t-(ICO+FC)第27页，共51页。15-28Subtract Flotation Costs from the proceeds(price)of the security and recalculate yield figures.Imp
18、act:the cost for any capital component with flotation costs.Result:Increases the WACC,which the NPV.第28页，共51页。15-29Initially assume all-equity financing.Determine project beta.Calculate the expected return.Adjust for capital structure of firm.Compare cost to IRR of project.Use of CAPM in Project Sel
19、ection:第29页，共51页。15-30Locate a proxy for the project(much easier if asset is traded).Plot the Characteristic Line relationship between the market portfolio and the proxy asset excess returns.Estimate beta and create the SML.Determining the SML:第30页，共51页。15-31SMLXXXXXXXOOOOOOOSYSTEMATIC RISK(Beta)EXP
20、ECTED RATE OF RETURNRfAcceptReject第31页，共51页。15-32 1.Calculate the required return for Project k(all-equity financed).Rk=Rf+(Rm-Rf)b bk 2.Adjust for capital structure of thefirm(financing weights).Weighted Average Required Return=ki%of Debt+Rk%of Equity 第32页，共51页。15-33Assume a computer networking pro
21、ject is being considered with an IRR of 19%.Examination of firms in the networking industry allows us to estimate an all-equity beta of 1.5.Our firm is financed with 70%Equity and 30%Debt at ki=6%.The expected return on the market is 11.2%and the risk-free rate is 4%.第33页，共51页。15-34 ke =Rf+(Rm-Rf)b
22、bj=4%+(11.2%-4%)1.5 =4%+10.8%=.30(6%)+.70(14.8%)=1.8%+10.36%=第34页，共51页。15-35Initially assume all-equity financing.Determine group beta.Calculate the expected return.Adjust for capital structure of group.Compare cost to IRR of group project.Use of CAPM in Project Selection:第35页，共51页。15-36Group-Specif
23、icRequired ReturnsCompany Costof CapitalSystematic Risk(Beta)Expected Rate of Return第36页，共51页。15-37Amount of non-equity financing relative to the proxy firm.Adjust project beta if necessary.Standard problems in the use of CAPM.Potential insolvency is a total-risk problem rather than just systematic
24、risk(CAPM).第37页，共51页。15-38Risk-Adjusted Discount Rate Approach(RADR)The required return is increased(decreased)relative to the firms overall cost of capital for projects or groups showing greater(smaller)than“average”risk.第38页，共51页。15-39Discount Rate(%)0 3 6 9 12 15RADR “high”risk at 15%(Reject!)RAD
25、R “low”risk at 10%(Accept!)Adjusting for risk correctlymay influence the ultimateProject decision.Net Present Value$000s151050-4第39页，共51页。15-40Probability Distribution Approach Acceptance of a single project with a positive NPV depends on the dispersion of NPVs and the utility preferences of managem
26、ent.第40页，共51页。15-41BCAIndifferenceCurvesSTANDARD DEVIATIONEXPECTED VALUE OF NPVCurves show“HIGH”Risk Aversion第41页，共51页。15-42BCAIndifferenceCurvesSTANDARD DEVIATIONEXPECTED VALUE OF NPVCurves show“MODERATE”Risk Aversion第42页，共51页。15-43BCAIndifferenceCurvesSTANDARD DEVIATIONEXPECTED VALUE OF NPVCurves
27、show“LOW”Risk Aversion第43页，共51页。15-44j:Beta of a levered firm.ju:Beta of an unlevered firm(an all-equity financed firm).B/S:Debt-to-Equity ratio in Market Value terms.TC:The corporate tax rate.第44页，共51页。15-45Adjusted Present Value(APV)is the sum of the discounted value of a projects operating cash f
28、lows plus the value of any tax-shield benefits of interest associated with the projects financing minus any flotation costs.APV=UnleveredProject Value+Value ofProject Financing第45页，共51页。15-46Assume Basket Wonders is considering a new$425,000 automated basket weaving machine that will save$100,000 pe
29、r year for the next 6 years.The required rate on unlevered equity is 11%.BW can borrow$180,000 at 7%with$10,000 after-tax flotation costs.Principal is repaid at$30,000 per year(+interest).The firm is in the 40%tax bracket.第46页，共51页。15-47What is the?NPV=$100,000PVIFA11%,6-$425,000NPV=$423,054-$425,00
30、0=第47页，共51页。15-48What is the?First,determine the interest expense.Int Yr 1($180,000)(7%)=$12,600Int Yr 2(150,000)(7%)=10,500Int Yr 3(120,000)(7%)=8,400Int Yr 4(90,000)(7%)=6,300Int Yr 5(60,000)(7%)=4,200Int Yr 6(30,000)(7%)=2,100第48页，共51页。15-49Second,calculate the tax-shield benefits.TSB Yr 1($12,60
31、0)(40%)=$5,040TSB Yr 2(10,500)(40%)=4,200TSB Yr 3(8,400)(40%)=3,360TSB Yr 4(6,300)(40%)=2,520TSB Yr 5(4,200)(40%)=1,680TSB Yr 6(2,100)(40%)=840第49页，共51页。15-50Third,find the PV of the tax-shield benefits.TSB Yr 1($5,040)(.901)=$4,541TSB Yr 2(4,200)(.812)=3,410TSB Yr 3(3,360)(.731)=2,456TSB Yr 4(2,520)(.659)=1,661TSB Yr 5(1,680)(.593)=996TSB Yr 6(840)(.535)=449第50页，共51页。15-51What is the?APV=NPV+PV of TS-Flotation Cost APV=-$1,946+$13,513-$10,000=第51页，共51页。
