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Kevin Campbell, University o f Stirling, November 2005 11
2008
KOSZT I
STRUKTURA
KAPITAŁU
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Kevin Campbell, University o f Stirling, November 2005 22
Cost of CapitalCost of Capital - The return the firm’s
investors could expect to earn if they
invested in securities with comparabledegrees of risk
Capital Structure - The firm’s mix of longterm financing and equity financing
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Kevin Campbell, University o f Stirling, November 2005 33
Cost of Capital The cost of capital represents the overall cost
of financing to the firm
The cost of capital is normally the relevantdiscount rate to use in analyzing an investment
The overall cost of capital is a weightedaverage of the various sources:
• !"" # eighted !verage "ost of "apital
• !"" # !fter-tax cost x weights
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Kevin Campbell, University o f Stirling, November 2005 44
Cost of Debt The cost of debt to the firm is the effective yield to
maturity $or interest rate% paid to its bondholders
&ince interest is tax deductible to the firm' theactual cost of debt is less than the yield tomaturity:
• !fter-tax cost of debt # yield x $( - tax rate%
The cost of debt should also be ad)usted forflotation costs $associated with issuing newbonds%
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Kevin Campbell, University o f Stirling, November 2005 55
with stock with debt
EBIT 400,000 400,000
- interest expense 0 (50,000)
EBT 400,000 350,000
- taxes (34%) (13,000) (11!,000)E"T #4,000 #31,000
Example: Tax effects ofExample: Tax effects of
financing with debtfinancing with debt
*ow' suppose the firm pays +,' in dividendsto the shareholders
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Kevin Campbell, University o f Stirling, November 2005 66
with stock with debt
EBIT 400,000 400,000
- interest expense 0 (50,000)EBT 400,000 350,000
- taxes (34%) (13,000) (11!,000)
E"T #4,000 #31,000
- di$idends (50,000) 0
etained earnin&s #14,000 #31,000
Example: Tax effects ofExample: Tax effects of
financing with debtfinancing with debt
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Kevin Campbell, University o f Stirling, November 2005 77
"'ter-tax cost Be'ore-tax cost Tax
o' ebt o' ebt a$in&s
33,000 * 50,000 - 1+,000
33,000 * 50,000 ( 1 - 34)
Or, if we want to look at percentage costs:
-*Cost of Debt
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Kevin Campbell, University o f Stirling, November 2005 88
"'ter-tax Be'ore-tax .ar&ina/
% cost o' % cost o' x tax
ebt ebt rate
d * kd (1 - T)
0 * 10 (1 - 34)
-
* 11
Cost of Debt
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Kevin Campbell, University o f Stirling, November 2005 99
Prescott Corporation issues a $,!!! par,"! #ear bond pa#ing the market rate of
!% Coupons are annual% The bond willsell for par since it pa#s the market rate,but flotation costs amount to $&! perbond%
'hat is the pre(tax and after(tax cost ofdebt for Prescott Corporation)
EXAMPLE: Cost of Debt
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Kevin Campbell, University o f Stirling, November 2005 1010
Pre(tax cost of debt:*&! + !!P-./0 "!, 1d2 3 !!!P-./ "!, 1d2
using a financial calculator: 1d + !%4
0fter(tax cost of debt:
1d + 1d ( T2
1d + %!4 ( %562
1d + %!7 + 7
EXAMPLE: Cost of Debt
&o a (. bondcosts the firmonly /.
$with flotation costs%because interestis tax deductible
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Kevin Campbell, University o f Stirling, November 2005 1111
Cost of New Pefee!
Sto"# 0referred stock:
• has a fixed dividend $similar to debt%
• has no maturity date• dividends are not tax deductible and are
expected to be perpetual or infinite
"ost of preferred stock # dividendprice - flotation cost
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Kevin Campbell, University o f Stirling, November 2005 1212
Cost of Pefee! sto"#:
E$a%pleBaker Corporation has preferred stock that sells for $100 per share and pays an annualdiidend of $10!50! "f the flotation costs are $4 per share# hat is the cost of ne preferred stock%
10!94&!10944'$100
$10!50 (
) ===
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Kevin Campbell, University o f Stirling, November 2005 1313
Cost of E&'it(:Retai)e! Ea)i)*shy is there a cost for retained earnings1
2arnings can be reinvested or paid out as
dividends 3nvestors could buy other securities' and
earn a return4
Thus' there is an opportunity cost ifearnings are retained
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Kevin Campbell, University o f Stirling, November 2005 1414
Cost of E&'it(:Retai)e! Ea)i)*s "ommon stock equity is available throughretained earnings $562% or by issuing new
common stock:• "ommon equity # 562 7 *ew common stock
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Kevin Campbell, University o f Stirling, November 2005 1515
Cost of E&'it(:
New Co%%o) Sto"#The cost of new common stock is higher
than the cost of retained earnings
because of flotation costs• selling and distribution costs $such as
sales commissions% for the new
securities
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Kevin Campbell, University o f Stirling, November 2005 1616
Cost of E&'it(There are a number of methods used to
determine the cost of equity
e will focus on two
8ividend growth 9odel
"!09
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Kevin Campbell, University o f Stirling, November 2005 1717
T+e Di,i!e)! -owt+ Mo!el
Appoa"+
2stimating the cost of equity: the dividend growth modelapproach
!ccording to the constant growth (Gordon) model' D( P - # R E - g
5earranging D(
R E # + g
P -
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Kevin Campbell, University o f Stirling, November 2005 1818
E$a%ple: Esti%ati)* t+e
Di,i!e)! -owt+ Rate 0ercentageear 8ividend 8ollar "hange "hange
(;; +<4 --
(;;( <4< +4< (4.(;;= <4/, 4>, /4;,
(;;> ,4=, 4, (4,>
(;;< ,4?, 4< /4?=
!verage @rowth 5ate
$(4 7 /4;, 7 (4,> 7 /4?=%6< # ;4=,.
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Kevin Campbell, University o f Stirling, November 2005 1919
Di,i!e)! -owt+ Mo!el
This model has drawbacks:
&ome firms concentrate on growth and do notpay dividends at all' or only irregularly
@rowth rates may also be hard to estimate !lso this model doesn’t ad)ust for market risk
Therefore many financial managers prefer thecapital asset pricing model $"!09% - or securitymarket line $&9A% - approach for estimating thecost of equity
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Kevin Campbell, University o f Stirling, November 2005 2020
Capital 0sset Pricing 8odel C0P82
*+ f m f R R β Rkj −+=
Cost of
capital 9isk(freereturn
0erage rate of return
on common stocks'.;2
Co(ariance
of returns againstthe portfolio
departure from the aerage2< = , securit# is safer than '.; aerage
< > , securit# is riskier than '.; aerage
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Kevin Campbell, University o f Stirling, November 2005 2121
T+e Se"'it( Ma#et Li)e .SML/
e2ired rateo' ret2rn
ercent
05 10 15 #0
. * ' ( 6 7 ' )
Beta (risk)
.arket risk pre6i26
#00
180
10
140
1#0
100
80
55
'
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Kevin Campbell, University o f Stirling, November 2005 2222
0i)!i)* t+e Re&'ie! Ret') o)
Co%%o) Sto"# 'si)* t+e Capital
Asset Pi"i)* Mo!el,he Capital -sset )ricin. /odel +C-)/* can e used to estiate thereuired return on indiidual stocks! ,he forula
( ) ( ( f f −+= β
here ( euired return on stock
f isk'free rate of return +usually current rate on ,reasury Bill*!
β Beta coefficient for stock represents risk of the stock
( eturn in arket as easured y soe proy portfolio +inde*
uppose that Baker has the folloin. alues
f 5!5&
β 1!0
( 12&
!
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Kevin Campbell, University o f Stirling, November 2005 2323
0i)!i)* t+e Re&'ie! Ret') o)
Co%%o) Sto"# 'si)* t+e Capital
Asset Pi"i)* Mo!el ,hen# usin. the C-)/ e ould .et a reuired return of
( ) 12&5!5'121!05!5( =+=
!
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Kevin Campbell, University o f Stirling, November 2005 2424
CAPM1SML appoa"+
0dantage: 2valuates risk' applicableto firms that don’t pay dividends
?isadantage: *eed to estimate
• Beta
• the risk premium $usually based on past data'not future pro)ections%
• use an appropriate risk free rate of interest
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Kevin Campbell, University o f Stirling, November 2005 2525
Esti%atio) of 2eta: Meas'i)*Ma#et Ris#
9arket 0ortfolio - 0ortfolio of all assets inthe economy
3n practice a broad stock market index'such as the 3@' is used to represent themarket
Beta - sensitivity of a stock’s return to thereturn on the market portfolio
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Kevin Campbell, University o f Stirling, November 2005 2626
Esti%atio) of 2eta
Theoretically' the calculation of beta isstraightforward:
0roblems
(4Betas may vary over time4
=4The sample size may be inadequate4
>4Betas are influenced by changing financial leverage and business risk4
&olutions
• 0roblems ( and = $above% can be moderated by more sophisticated statisticaltechniques4
• 0roblem > can be lessened by ad)usting for changes in business and financialrisk4
• Aook at average beta estimates of comparable firms in the industry4
2*+
*#+
M
iM
M
M i
R!ar
R RCov β ==
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Kevin Campbell, University o f Stirling, November 2005 2727
Stabilit( of 2eta
9ost analysts argue that betas are generallystable for firms remaining in the same industry
That’s not to say that a firm’s beta can’t change• "hanges in product line
• "hanges in technology
• 8eregulation
• "hanges in financial leverage
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Kevin Campbell, University o f Stirling, November 2005 2828
What is the appropriate risk-free rate?
Use the yield on a long-term bond if you areanalyzing cash ows from a long-term investment
For short-term investments, it is entirelyappropriate to use the yield on short-termgovernment securities
Use the nominal risk-free rate if you discountnominal cash ows and real risk-free rate if youdiscount real cash ows
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Kevin Campbell, University o f Stirling, November 2005 2929
Survey evidence: What do youuse for the risk-free rate?
Corporations Financial Advisors
90-day -bill !"#$ 90-day -bill !%0#$
&-' year reasuries !'#$ (-%0 year reasuries !%0#$%0-year reasuries !&&#$ %0-&0 year reasuries !&0#$
)0-year reasuries !"#$ &0-year reasuries !"0#$
%0-&0 year reasuries !&&#$ *+ !%0#$
%0-years or 90-day depends!"#$
*+ !%(#$.ource/ runer et1 al1 !%992$
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Kevin Campbell, University o f Stirling, November 2005 3030
3ei*+te! A,ea*e Cost of Capital
.3ACC/
!"" weights the cost of equity and the costof debt by the percentage of each used in afirm’s capital structure
!""#$26 C% x 52 7 $86 C% x 58 x $(-T"%
• $26C%# 2quity . of total value
• $86C%#8ebt . of total value
• $(-Tc%#!fter-tax . or reciprocal of corp tax rate Tc4The after-tax rate must be considered becauseinterest on corporate debt is deductible
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Kevin Campbell, University o f Stirling, November 2005 3131
3ACC Ill'statio)
-BC Corp has 1!4 illion shares coon alued at $20 per
share $28 illion! et has face alue of $5 illion and trades
at 93& of face +$4!65 illion* in the arket! ,otal arket alue
of oth euity : det thus $32!65 illion! ;uity & !8576and et & !1424
isk free rate is 4&# risk preiu7& and -BC<s =!74
eturn on euity per /> ; 4& : +7& !74*9!18&
,a rate is 40&
Current yield on arket det is 11&
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Kevin Campbell, University o f Stirling, November 2005 3232
3ACC Ill'statio)
?-CC +;@A* ; : +@A* +1',c*
!8576 !0918 : +!1424 !11 !60*
!088126 or 8!81&
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Kevin Campbell, University o f Stirling, November 2005 3333
0i)al )otes o) 3ACC
!"" should be based on market rates andvaluation' not on book values of debt or equity
Book values may not reflect the current
marketplace !"" will reflect what a firm needs to earn on
a new investment4 But the new investmentshould also reflect a risk level similar to the
firm’s Beta used to calculate the firm’s 524• 3n the case of !B" "o4' the relatively low !"" of
D4D(. reflects !B"’s E#4/<4 ! riskier investmentshould reflect a higher interest rate4
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Kevin Campbell, University o f Stirling, November 2005 3434
0i)al )otes o) 3ACC
The !"" is not constant
3t changes in accordance with the risk of
the company and with the floatationcosts of new capital
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Kevin Campbell, University o f Stirling, November 2005 3535
Ma*i)al "ost of "apital a)!i),est%e)t po4e"ts10
140
1#0
100
80
0
40
#0
00
ercent
10 15 1! 503!"6o2nt o' capita/ (9 6i//ions)
11#3%
+0 85 !5
.ar&ina/
cost o'capita/
6c
"
B:
E
;<
=
10++%
1041%
-
-
-
-
-
-
-
-
-
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T+e E)! 56
F!03T!G - bogactwo zebrane uprzednio w celu pod)Hcia dalsze) produkc)i $I4 Juesnay' KC333% wszelki wynik procesu produkcy)nego' ktLry przeznaczony )est do pLMnie)szego
wykorzystania w procesie produkcy)nym $9"Fenzzie' *ardelli'(;;(% caNoksztaNt zaangaOowanych w przedsiHbiorstwie wewnHtrznych i
zewnHtrznych' wNasnych i obcych' terminowych i nieterminowych zasobLw$bilans% &T5PFTP5! F!03T!GP proporc)a udziaNu kapitaNu wNasnego i obcego w finansowaniu dziaNalnoQci
przedsiHbiorstwa relac)a wartoQci zadNuOenia dNugoterminowego do kapitaNLw wNasnych
przedsiHbiorstwa
struktura finansowania @ struktura kapitaAu + BobowiBania bieDce ramy statycznego kompromisu' w ktLrym przedsiHbiorstwo ustala docelowRwielkoQS wskaMnika zadNuOenia i stopniowo zbliOa siH do )ego osiRgniHcia4
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