Knowledge about the magnitude of the cost of capital invested in
an asset and its determinants is essential for the analysis of
corporate investment decisions and for assessing profitability.
This book provides a clear conceptual understanding of the cost of
capital, the characteristics of an asset that influence it, and a
critical, comprehensive, and up-to-date evaluation of practical
means for estimating its magnitude. It is intended primarily for
use by professional managers, but will also be valuable to future
managers in advanced capital budgeting courses.
The focus of the discussion is on estimation methods that are
theoretically sound and consistent with a corporate goal of value
creation. Three methods are analyzed in depth: the discounted cash
flow model, the capital asset pricing model, and arbitrage pricing
theory. For each method, the basic theory is set out in a
nontechnical manner and empirical evidence in support of the model
is critically reviewed. The bulk of the discussion then focuses on
practical means for implementing the methods for decision-making
purposes. Later chapters focus on the effects of the
debt-supporting characteristics of assets, on the valuation of
options embedded in securities, and on the estimation of the cost
of capital for evaluating international investments. The final
chapter discusses certain aspects of the use of cost of capital in
public utility regulation. Care is taken to separate out key issues
from more peripheral material through a comprehensive set of
supplementary notes.
General
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