Cost of Capital: Workbook and Technical Supplement

396 Pages·2010·2.034 MB·English

by  Shannon P. Pratt, Roger J. Grabowski

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E1FFIRS 09/04/2010 13:42:9 Page2
E1FFIRS 09/04/2010 13:42:9 Page1
Cost of Capital Fourth
Edition Workbook
and Technical
Supplement
E1FFIRS 09/04/2010 13:42:9 Page2
E1FFIRS 09/04/2010 13:42:9 Page3
Cost of Capital Fourth
Edition Workbook
and Technical
Supplement
SHANNON P. PRATT
ROGER J. GRABOWSKI
John Wiley & Sons, Inc.
E1FFIRS 09/04/2010 13:42:9 Page4
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ISBN978-0-470-47606-2;ISBN978-0-470-94492-9(ebk);ISBN978-0-470-94934-4(ebk);
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10 9 8 7 6 5 4 3 2 1
E1FTOC 09/10/2010 16:23:23 Page5
Contents
Preface ix
AbouttheAuthor xi
Acknowledgments xix
NotationSystemandAbbreviationsUsinginThisBook xxi
PARTONE
TechnicalSupplement—SupplementstoChaptersof
CostofCapital:ApplicationsandExamples,4thed.
CHAPTER1
AlternativeNetCashFlowDefinitions—SupplementtoChapter3 3
Introduction 3
EquityCashFlowMethod 3
InvestedCapitalMethod 4
CapitalCashFlowMethod 5
AdjustedPresentValueMethod 7
ResidualIncomeMethod 8
CHAPTER2
ExamplesofComputingOLSBeta,SumBeta,andFullInformation
BetaEstimates—SupplementtoChapter10 10
Introduction 10
ComputingOLSandSumBetaEstimates—AnExample 11
ComputingFull-InformationBetaEstimate—AnExample 15
CHAPTER3
EstimatingBeta:InterpretingRegression
Statistics—SupplementtoChapter10 22
Introduction 22
EvaluatingBetaEstimationOutput 25
EvaluatingRegressionOutput 26
v
E1FTOC 09/10/2010 16:23:23 Page6
vi CONTENTS
CHAPTER4
ExampleofComputingDownsideBetaEstimates—SupplementtoChapter12 31
Introduction 31
ComputingDownsideBetaEstimates 31
CHAPTER5
IterativeProcessUsingCAPMtoCalculatetheCostofEquity
ComponentoftheWeightedAverageCostofCapitalWhen
CapitalStructureIsConstant—SupplementtoChapter18 34
Introduction 35
CapitalAssetPricingModelandBeta 35
Solution:TheIterativeProcess 36
IterativeProcessUsingaFinancialSpreadsheetModel 39
Summary 48
AdditionalReading 48
CHAPTER6
IterativeProcessUsingCAPMtoCalculatetheCostofEquity
ComponentoftheWeightedAverageCostofCapitalWhen
CapitalStructureIsChanging—SupplementtoChapter18 49
Introduction 49
AssumptionsInherentinWeightedAverageCostofCapital 50
Solution:IterativeProcesswithChangingCapitalStructure 50
IterativeProcessUsingFinancialSpreadsheetModel 52
EquityValue 60
Summary 62
AdditionalReading 62
CHAPTER7
CostofCapitalandtheValuationofWorthlessStock—Supplement
toChapter16 63
Introduction 64
LiquidatingValue 64
PotentialValue 66
Example 67
PossibilityThatValueoftheBusinessEnterpriseExceeds
theFaceValueofDebt—PricingEquityasaCallOption 67
PotentialFutureValue:ProbabilityThatBusiness
EnterpriseExceedsFaceValueofDebt 73
AdditionalConsiderations 77
Summary 79
E1FTOC 09/10/2010 16:23:23 Page7
Contents vii
PARTTWO
TechnicalSupplement—SpecificApplicationsofCostofCapital
CHAPTER8
CostofCapitalofPrivateInvestmentCompanyInterests 83
Introduction 83
ThePrivateInvestmentCompany 84
RelationshipsbetweenTimetoaLiquidityEventandValue 85
LackofControl 89
LackofMarketabilityorIlliquidity 93
ExampleValuationofPICInterest 99
Summary 105
CHAPTER9
CostofCapitalofRealProperty—IndividualAssets 107
Introduction 107
TypicalStructureofaRealEstateTransaction 108
RealPropertyCompeteswithOtherAssetClasses 109
DirectCapitalizationMethod 111
DiscountedCashFlowMethod 125
EstimatingthePropertyDiscountRate 126
Summary 130
Appendix9A:ValuingRealProperty 131
CHAPTER10
CostofCapitalofRealEstateEntities 139
Introduction 139
DefinitionofaRealEstateEntity 140
MeasuringNetCashFlowforRealEstateEntities 153
ValuationofRealEstateEntities 154
Summary 175
AdditionalReading 176
Appendix10A:ValuingRealEstateEntities 177
PARTTHREE
LearningObjectives,Questions,andProblems 185
PARTFOUR
AnswersandSolutions 227
Index 247