LECTURE 10 COST OF CAPITAL CLASS QUESTIONS 1. Roland Corporation’s last dividend (D0)‚ which was paid yesterday‚ was $2.50. The firm has a constant growth of 18.8%. The firm’s beta coefficient is 1.2. The required return on an average stock in the market is 13 percent‚ and the risk-free rate is 7 percent. Roland’s A-rated bonds are yielding 10 percent‚ its risk premium is 4% and its current stock price is $30. Which of the following values is the most reasonable estimate of Roland’s cost of retained
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WACC and why is it important to estimate a firm’s cost of capital? Do you agree with Joanna Cohen’s WACC calculation? Why or why not? WACC- The weighted average cost of capital is the rate (percentage) that a company has to pay to its creditors and shareholders to finance assets. It is the “cost” of their worth. Companies raise money from many different types of securities and loans and the various required returns are what make up the cost of capital. WACC is used to decide if an investment is worth
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Ameritrade’s managers should also consider what taking on these programs would do to its capital structure. They might have a certain debt to equity ratio they wish to maintain‚ or perhaps there would be covenants put on their contracts requiring them to maintain a certain debt to equity ratio while their loan was outstanding. Ameritrade should use a 6.10% risk free rate when calculating its cost of capital. This is the average of the 20 year bond annualized yield to maturity (on August 31‚ 1997)
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Telus: The Cost of Capital Telus needs to calculate the cost of capital from the variety of data given. The cost of capital is determined mostly by how the funds are used rather than where they were obtained from. It relies on the risk of investments Telus involves in‚ therefore‚ depending on cost of both equity of debt as described below. Also note that‚ even though the preferred shares are not attractive to issuers and may not get issued again‚ it is still on the company’s balance sheet and affect
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1) Executive Summary Marriott needs to calculate hurdle rates which will be used in its investment project selection. The company chooses to use cost of capital as its hurdle rate. Since the company has three business divisions and the cost of capital in each division varies and differs from that of Marriott as a whole‚ each division needs to have its own hurdle rate. The reason behind this practice is the company’s strategy which focuses on growth. Using a single hurdle rate for the whole company
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Toyota Cost of Capital Case: General Methodology We used the following framework to do the calculations for all the companies. Afterwards we will discuss their implications: To estimate the cost of equity (RE) we used the following CAPM model: RE = RF + βE (RM-RF) whereby‚ Market Premium = RM – RF = 6% (Given in case) RM = Return for S & P 500 (a market return that takes into account systematic risk associated with the market place where our company is traded‚ NYSE) Risk Free Rate
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hurdle rates is critical to accepting or rejecting projects‚ Marriott should be precise by calculating and using division-specific rates on division-specific projects. We used the WACC method so that our hurdle rates would reflect appropriate cost of debt and cost of equity‚ as explained in our subsequent analysis. We found Marriott’s hurdle rates: 8.646% for hotels‚ 10.94% for restaurants‚ 11.094% for contracts‚ and 9.688% for the entire company. Marriott should use the division-specific hurdle rates
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GLOBALIZING THE COST OF CAPITAL AND CAPITAL BUDGETING AT AES 1. How would you evaluate the capital budgeting method used historically by AES? 2. If you implemented the methodology suggested by Venerus‚ what would be the range of discount rates one would use around the world? 3. Does this make sense as a way to do capital budgeting? 4. How big a value difference does this new approach make to the Pakistan project? 5. How do these cost of capital modifications translate into changed probabilities
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Case #3 “Marriott Corporation” The Cost of Capital” What is the weighted average cost of capital for the Marriott Corporation and cost of capital for each of its divisions? – What risk-free rate and risk premium did you use to calculate the cost of equity? – How did you measure the cost of debt? – How did you measure the beta for each division? Solution What risk-free rate and risk premium did you use to calculate the cost of equity? – Risk-free rate proxy The risk-free
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Marriott Case 1. What is the WACC for Marriott Corporation? Cost of Debt Tax Rate We determined this number by taking income taxes paid/EBITDA = 175.9/398.9 = 44.1% Return on debt There are two clear components of debt: fixed and floating. In order to get the fixed debt rate we took the interest rates on fixed-rate government securities and added the premium
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