# ch 10 - Chapter10 TheCostofCapital SourcesofCapital...

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The Cost of Capital Chapter 10 Sources of Capital  Component Costs WACC Adjusting for Flotation Costs Adjusting for Risk 10-1

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What sources of long-term capital do  firms use? 10-2
Calculating the Weighted Average Cost  of Capital WACC = w d r d (1 – T) + w p r p  + w c r s   The w’s refer to the firm’s capital structure  weights. The r’s refer to the cost of each component. 10-3

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Should our analysis focus on before-tax or  after-tax capital costs? Stockholders focus on A-T CFs.  Therefore,  we should focus on A-T capital costs, i.e. use  A-T costs of capital in WACC.  Only r d  needs  adjustment, because interest is tax  deductible. 10-4
Should our analysis focus on historical  (embedded) costs or new (marginal) costs? The cost of capital is used primarily to make  decisions that involve raising new capital.  So,  focus on today’s marginal costs (for WACC). 10-5

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How are the weights determined? WACC =  w d r d (1 – T) +  w p r p  +  w c r s   10-6 Use accounting numbers or market value  (book vs. market weights)? Use actual numbers or target capital  structure?
Component Cost of Debt WACC = w d r d (1   T)  + w p r p  + w c r s   10-7 r d  is the marginal cost of debt capital. The yield to maturity on outstanding L-T debt  is often used as a measure of r d . Why tax-adjust; i.e., why r d (1 – T)?

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for \$1,153.72.  What is the cost of debt (r d )? Remember, the bond pays a semiannual
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## This note was uploaded on 03/25/2012 for the course FINA 2201 taught by Professor J during the Spring '10 term at Northeastern.

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ch 10 - Chapter10 TheCostofCapital SourcesofCapital...

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