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20 Cards in this Set
- Front
- Back
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indicates how the market views the risk of assets
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cost of capital
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helps us determine our required return for capital budgeting projects
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cost of capital
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- same as appropriate discount rate
- based on risk of cash flows |
required return
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We need to earn at least the ____ _____ to compensate our investors for the financing they have provided
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required return
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return required by equity investors given the risk of cash flows
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cost of equity
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- only applicable to companies currently paying dividends
- only applicable to dividends growing at a constant rate - does not explicitly consider risk |
disadvantages of dividend growth model
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- explicitly adjusts for systematic risk
- can apply to all companies as long as we can estimate beta |
advantages of SML
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- must estimate expected market risk
- must estimate beta (varies) - not always reliable for future |
disadvantages of SML
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required return on company debt
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cost of debt
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We may use estimates of ____ rates based on the bond rating we expect when we issue ____ ____
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current; new debt
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generally pays a constant dividend every period
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preferred stock
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dividends are paid every period forever
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preferred stock
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The WACC is the ____ ____ on the firms' assets, based on the market's perception of the risk of those assets
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required return
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Interest expense ____ tax liability, which reduces ____ of ___
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reduces; cost; debt
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Using WACC is appropriate for projects that have the same ____ as the firm's current operations
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risk
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When looking at specific project, use the ____ ____ for that project instead of the ____ for the entire firm
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required return; WACC
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- find one or more companies that specialize
- compute beta - average - use beta and CAPM to find appropriate return for a project of that risk |
pure play approach
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- consider project risk relative to firm overall
- if project has more risk than firm, use discount rate > WACC - if project has less risk than firm, use discount rate < WACC - error rate lower than if not considering differential risk at all |
subjective approach
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required return depends on the risk, not how the money is raised
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flotation costs
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The cost of issuing ___ ___ should not just be ignored
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new securities
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