Question

Module 7: Discussion This module discusses the cost of capital and capital structure. 20 7) In reality how the financial analysts evaluate the cost of capital for the firm? especially when the firm has multiple outstanding bonds with different maturity dates? 2) Any idea on how we evaluate the WACC for the private firms that will not have a beta or will not pay dividends. Please include the source in your post. Due Date: December 1 Displaying 1 to 5 of 5 ite

Answer 1

(1): Financial analysts evaluate the cost of capital for the firm by measuring the weight of debt and the true cost of borrowing money or raising funds through equity to finance new capital purchases and expansions based on the company’s current level of debt and equity structure. The financial analyst will average all sources of capital. When a company has multiple outstanding bonds with different maturity dates then the financial analysts compute the yield to maturity for each bond separately and then on the basis of this different yield to maturity figures compute the average yield to maturity for all the bonds combined.

(2): To compute WACC for private firms that do not have a beta and will not pay dividends we start by computing its YTM i.e. yield to maturity. This can easily be computed given its bond details. From the YTM we can compute the after tax cost of debt. The difficult part is with regards to computing cost of equity as private companies do not have a beta nor does pay dividends. For this purpose we will have to find betas of comparable listed companies i.e. companies that have similar business as the private company and are listed. We can compute the average cash adjusted unlevered beta of all the similar listed companies and use this average as the proxy beta for the private company.