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1、,Principles of Corporate Finance Seventh Edition Richard A. Brealey Stewart C. Myers,Slides by Matthew Will,Chapter 9,McGraw Hill/Irwin,Copyright 2003 by The McGraw-Hill Companies, Inc. All rights reserved,Capital Budgeting and Risk,Topics Covered,Company and Project Costs of Capital Measuring the C
2、ost of Equity Capital Structure and COC Discount Rates for Intl. Projects Estimating Discount Rates Risk and DCF,Company Cost of Capital,A firms value can be stated as the sum of the value of its various assets,Company Cost of Capital,Company Cost of Capital,A companys cost of capital can be compare
3、d to the CAPM required return,Required return,Project Beta,1.26,Company Cost of Capital,13 5.5 0,SML,Measuring Betas,The SML shows the relationship between return and risk CAPM uses Beta as a proxy for risk Other methods can be employed to determine the slope of the SML and thus Beta Regression anal
4、ysis can be used to find Beta,Measuring Betas,Dell Computer,Slope determined from plotting the line of best fit.,Price data Aug 88- Jan 95,Market return (%),Dell return (%),R2 = .11 B = 1.62,Measuring Betas,Dell Computer,Slope determined from plotting the line of best fit.,Price data Feb 95 Jul 01,M
5、arket return (%),Dell return (%),R2 = .27 B = 2.02,Measuring Betas,General Motors,Slope determined from plotting the line of best fit.,Price data Aug 88- Jan 95,Market return (%),GM return (%),R2 = .13 B = 0.80,Measuring Betas,General Motors,Slope determined from plotting the line of best fit.,Price
6、 data Feb 95 Jul 01,Market return (%),GM return (%),R2 = .25 B = 1.00,Measuring Betas,Exxon Mobil,Slope determined from plotting the line of best fit.,Price data Aug 88- Jan 95,Market return (%),Exxon Mobil return (%),R2 = .28 B = 0.52,Measuring Betas,Exxon Mobil,Slope determined from plotting the l
7、ine of best fit.,Price data Feb 95 Jul 01,Market return (%),Exxon Mobil return (%),R2 = .16 B = 0.42,Beta Stability,% IN SAME % WITHIN ONE RISK CLASS 5 CLASS 5 CLASS YEARS LATER YEARS LATER 10 (High betas) 35 69 9 18 54 8 16 45 7 13 41 6 14 39 5 14 42 4 13 40 3 16 45 2 21 61 1 (Low betas) 40 62 Sour
8、ce: Sharpe and Cooper (1972),Company Cost of Capitalsimple approach,Company Cost of Capital (COC) is based on the average beta of the assets The average Beta of the assets is based on the % of funds in each asset,Company Cost of Capitalsimple approach,Company Cost of Capital (COC) is based on the av
9、erage beta of the assets The average Beta of the assets is based on the % of funds in each asset Example 1/3 New Ventures B=2.0 1/3 Expand existing business B=1.3 1/3 Plant efficiency B=0.6 AVG B of assets = 1.3,Capital Structure - the mix of debt & equity within a company Expand CAPM to include CS
10、R = rf + B ( rm - rf ) becomes Requity = rf + B ( rm - rf ),Capital Structure,Capital Structure & COC,COC = rportfolio = rassets rassets = WACC = rdebt (D) + requity (E) (V) (V) Bassets = Bdebt (D) + Bequity (E) (V) (V),requity = rf + Bequity ( rm - rf ),IMPORTANT E, D, and V are all market values,C
11、apital Structure & COC,Expected return (%),Bdebt,Bassets,Bequity,Rrdebt=8,Rassets=12.2,Requity=15,Expected Returns and Betas prior to refinancing,Union Pacific Corp.,Requity = Return on Stock = 15% Rdebt = YTM on bonds = 7.5 %,Union Pacific Corp.,Union Pacific Corp.,Example,International Risk,Source
12、: The Brattle Group, Inc. s Ratio - Ratio of standard deviations, country index vs. S&P composite index,Asset Betas,Asset Betas,Risk,DCF and CEQ,Risk,DCF and CEQ,Example Project A is expected to produce CF = $100 mil for each of three years. Given a risk free rate of 6%, a market premium of 8%, and
13、beta of .75, what is the PV of the project?,Risk,DCF and CEQ,Example Project A is expected to produce CF = $100 mil for each of three years. Given a risk free rate of 6%, a market premium of 8%, and beta of .75, what is the PV of the project?,Risk,DCF and CEQ,Example Project A is expected to produce
14、 CF = $100 mil for each of three years. Given a risk free rate of 6%, a market premium of 8%, and beta of .75, what is the PV of the project?,Risk,DCF and CEQ,Example Project A is expected to produce CF = $100 mil for each of three years. Given a risk free rate of 6%, a market premium of 8%, and bet
15、a of .75, what is the PV of the project?,Now assume that the cash flows change, but are RISK FREE. What is the new PV?,Risk,DCF and CEQ,Example Project A is expected to produce CF = $100 mil for each of three years. Given a risk free rate of 6%, a market premium of 8%, and beta of .75, what is the P
16、V of the project?. Now assume that the cash flows change, but are RISK FREE. What is the new PV?,Risk,DCF and CEQ,Example Project A is expected to produce CF = $100 mil for each of three years. Given a risk free rate of 6%, a market premium of 8%, and beta of .75, what is the PV of the project?. Now assume that the cash flows change, but are RISK FREE. What is the new PV?,
