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6 Cards in this Set
- Front
- Back
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Required return |
the same as the discount rate and its based on the risk of the cash flows We need to know the required return before we can compute NPV and make a decision about whether or not to take the investment We need to earn at least the required return to compensate our investors for the financing they have provided (cost of capital) |
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Cost of equity |
the return required by equity investors given the risk of the cash flows from the firm i.e. business risk or financial risk |
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Methods for determining cost of equity |
Dividend Growth Model SML or CAPM |
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Cost of debt |
Required return on our company's debt Usually focus on the cost of long-term debt or bonds Best estimated by calculating the YTM on existing debt Cost of debt is NOT the coupon rate |
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Cost of preferred stock |
Preferred stock generally pays a constant dividend each period Dividends are expected to be paid every period forever Preferred stock is a perpetuity |
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The Weighted Average Cost of Capital (WACC) |
We can use the individual costs of capital that we have computed to get our "average" cost of capital for the firm This "average" is the required return on the firm's assets, based on the market's perception of the risk of those assets |
