Calculating the Cost of Capital
MGT 4850 Spring 2008 University of Lethbridge
Introduction
• http://www.santafe.edu/education/csss/csss08/programinfo.php
• DCF models using accounting statements to calculate free cash flows • The Gordon model –cost of equity based on dividends • The Capital Asset Pricing Model • The cost of debt • WACC • RADR
The Gordon model
• Share value and anticipated dividends
Supernormal growth
• 2 growth rates • Formula doesn't work
Supernormal growth
• Calculate share price as DCF (dividends and share price at point 5
Gordon Model with constant Growth Rate
• Cost of equity
Calculating Cost of Equity
• Choosing the growth rate
Capital Asset Pricing Model
• • • • Calculating beta of stock returns 125 monthly returns for SP500 and stock A Regression analysis Beta using variance/covariance matrix
CAPM cost of capital
Regression analysis
P/E model (p.37)
Cost of Debt
WACC (p.42)
Using SML to calculate cost of equity
• Beta as a measure of market risk • Regression analysis • Covariance of stock returns with market returns