Risk, Cost of Capital, Capital budget

Risk, Cost of Capital, Capital budget 2003,10,30 Present value   Cash flow C_0,C_1, …, C_T T NPV= Ct  (1  t 0 r )t   1/(1+r) is the discount factor What’s the real discount factor Cost of capital      NPV, cash flow, 1/(1+r) are related Given NPV and cash flow, we can find r=? This r is the require return Knowing r and cash flow, we can find NPV. Having r and NPV, we can verify cash flow. Cost of capital      The require return is the cost of capital to invest in the company (project) R=R_F + Beta*(R_M-R_F) R_F: risk-free rate R_M-R_F: market-risk premium Company beta: Beta Beta     Estimation of Beta Real-World Betas: stability of Beta, Using and industry Beta Equity beta, asset beta Beta_asset= Debt/asset *Beta_debt + equity/asset * Beta_equity Beta of a company    Cyclicality of revenues Operating leverage Financial leverage The Firm versus The Project  Corporate discount rate, Hurdle rate, cutoff rate, benchmark, and cost of capital are synonymous. Weighted Average Cost of Capital (WACC)   WACC=equity/asset * R_asset + debt/asset *R_debt *(1-Taxes) R_debt =interest Liquidity  Market-impact factor