COST OF CAPITAL: Applications and Examples, Third Edition -- Contents -- About the Authors -- Foreword -- Preface -- WHAT'S NEW IN THIS EDITION -- AUDIENCES FOR THE BOOK -- PRACTICAL APPLICATIONS -- Acknowledgments -- Introduction -- PURPOSE AND OBJECTIVE OF THIS BOOK -- OVERVIEW -- IMPORTANCE OF THE COST OF CAPITAL -- COST OF CAPITAL ESSENTIAL IN THE MARKETPLACE -- SOUND SUPPORT ESSENTIAL IN THE COURTROOM -- ORGANIZATION OF THIS BOOK -- SUMMARY -- Notation System and Abbreviations Used in This Book -- VALUE AT A POINT IN TIME -- COST OF CAPITAL AND RATE OF RETURN VARIABLES -- INCOME VARIABLES -- PERIODS OR VARIABLES IN A SERIES -- WEIGHTINGS -- GROWTH -- MATHEMATICAL FUNCTIONS -- NOTATION FOR REAL PROPERTY VALUATION (CHAPTER 36) -- ABBREVIATIONS -- Part 1: Cost of Capital Basics -- Chapter 1: Defining Cost of Capital -- INTRODUCTION -- COMPONENTS OF A COMPANY'S CAPITAL STRUCTURE -- COST OF CAPITAL IS A FUNCTION OF THE INVESTMENT -- COST OF CAPITAL IS FORWARD LOOKING -- COST OF CAPITAL IS BASED ON MARKET VALUE, NOT BOOK VALUE -- COST OF CAPITAL IS USUALLY STATED IN NOMINAL TERMS -- COST OF CAPITAL EQUALS THE DISCOUNT RATE -- DISCOUNT RATE IS NOT THE SAME AS CAPITALIZATION RATE -- SUMMARY -- Chapter 2: Introduction to Cost of Capital Applications: Valuation and Project Selection -- INTRODUCTION -- NET CASH FLOW IS THE PREFERRED ECONOMIC INCOME MEASURE -- COST OF CAPITAL IS THE PROPER DISCOUNT RATE -- PRESENT VALUE FORMULA -- EXAMPLE: VALUING A BOND -- APPLICATIONS TO BUSINESSES, BUSINESS INTERESTS, PROJECTS, AND DIVISIONS -- SUMMARY -- Chapter 3: Net Cash Flow: Preferred Measure of Economic Income -- INTRODUCTION -- DEFINING NET CASH FLOW -- NET CASH FLOWS SHOULD BE PROBABILITY-WEIGHTED EXPECTED VALUES -- WHY NET CASH FLOW IS THE PREFERRED MEASURE OF ECONOMIC INCOME -- RESIDUAL EARNINGS -- SUMMARY -- ADDITIONAL READING.

Chapter 4: Discounting versus Capitalizing -- INTRODUCTION -- CAPITALIZATION FORMULA -- EXAMPLE: VALUING A PREFERRED STOCK -- FUNCTIONAL RELATIONSHIP BETWEEN DISCOUNT RATE AND CAPITALIZATION RATE -- MAJOR DIFFERENCE BETWEEN DISCOUNTING AND CAPITALIZING -- CONSTANT GROWTH OR GORDON GROWTH MODEL -- COMBINING DISCOUNTING AND CAPITALIZING (TWO-STAGE MODEL) -- EQUIVALENCY OF DISCOUNTING AND CAPITALIZING MODELS -- MIDYEAR CONVENTION -- MATCHING PROJECTION PERIODS TO FINANCIAL STATEMENTS: PARTIAL FIRST YEAR -- CAPITALIZING RESIDUAL EARNINGS -- SUMMARY -- Chapter 5: Relationship between Risk and the Cost of Capital -- INTRODUCTION -- DEFINING RISK -- HOW RISK IMPACTS THE COST OF CAPITAL -- TYPES OF RISK -- COST OF EQUITY CAPITAL -- COST OF INVESTED CAPITAL OR OVERALL COST OF CAPITAL -- SUMMARY -- Chapter 5A: FASB's Concepts Statement No. 7: Cash Flows and Present Value Discount Rates -- Chapter 6: Cost Components of a Company's Capital Structure -- INTRODUCTION -- DEBT CAPITAL -- PREFERRED EQUITY -- CONVERTIBLE DEBT AND PREFERRED EQUITY -- EMPLOYEE STOCK OPTIONS -- COMMON EQUITY -- SUMMARY -- Part 2: Estimating the Cost of Equity Capital and the Overall Cost of Capital -- Chapter 7: Build-up Method -- INTRODUCTION -- FORMULA FOR ESTIMATING THE COST OF EQUITY CAPITAL BY THE BUILD-UP METHOD -- RISK-FREE RATE -- EQUITY RISK PREMIUM -- SMALL-COMPANY PREMIUM -- COMPANY-SPECIFIC RISK PREMIUM -- EXAMPLE OF THE BUILD-UP METHOD USING MORNINGSTAR DATA -- EXAMPLE OF THE BUILD-UP METHOD USING DUFF & PHELPS SIZE STUDY DATA -- SUMMARY -- Chapter 8: Capital Asset Pricing Model -- CONCEPT OF MARKET OR SYSTEMATIC RISK -- BACKGROUND OF THE CAPITAL ASSET PRICING MODEL -- MARKET OR SYSTEMATIC AND UNIQUE OR UNSYSTEMATIC RISKS -- USING BETA TO ESTIMATE EXPECTED RATE OF RETURN -- EXPANDING CAPM TO INCORPORATE SIZE PREMIUM AND SPECIFIC RISK -- EXPANDED CAPM COST OF CAPITAL FORMULA.

EXAMPLES OF A CAPM MODEL -- ASSUMPTIONS UNDERLYING THE CAPITAL ASSET PRICING MODEL -- SUMMARY -- Chapter 9: Equity Risk Premium -- INTRODUCTION -- DEFINING THE EQUITY RISK PREMIUM -- WHICH RISK-FREE RATE TO USE IN ESTIMATING THE ERP -- REALIZED RISK PREMIUM (ex POST) APPROACH -- FORWARD-LOOKING (ex Ante) APPROACHES -- OTHER SOURCES OF ERP ESTIMATES -- UNCONDITIONAL VERSUS CONDITIONAL ERP -- SUMMARY -- Appendix 9A: Bias Issues in Compounding and Discounting -- BIAS IN COMPOUNDING -- BIAS IN DISCOUNTING -- Chapter 10: Beta: Differing Definitions and Estimates -- INTRODUCTION -- ESTIMATION OF EQUITY BETA -- DIFFERENCES IN ESTIMATION OF EQUITY BETAS -- LEVERED AND UNLEVERED EQUITY BETAS -- MODIFIED BETAS: ADJUSTED, SMOOTHED, AND LAGGED -- ''FULL INFORMATION'' EQUITY BETA -- PEER GROUP EQUITY BETA -- FUNDAMENTAL EQUITY BETA -- EQUITY BETA ESTIMATION RESEARCH -- ESTIMATION OF DEBT BETA -- OTHER BETA CONSIDERATIONS -- SUMMARY -- Appendix 10A: Formulas and Examples for Unlevering and Levering Equity Betas -- HAMADA FORMULAS -- MILES-EZZELL FORMULAS -- HARRIS-PRINGLE FORMULAS -- PRACTITIONERS' METHOD -- CAPITAL STRUCTURE WEIGHTS -- FERNANDEZ FORMULAS -- Appendix 10B: Examples of Computing OLS Beta, Sum Beta, and Full-Information Beta Estimates -- INTRODUCTION -- COMPUTING OLS AND SUM BETA ESTIMATES-AN EXAMPLE -- COMPUTING FULL-INFORMATION BETA ESTIMATE-AN EXAMPLE -- Chapter 11: Criticism of CAPM and Beta versus Other Risk Measures -- INTRODUCTION -- CAPM ASSUMPTIONS AND BETA AS A RISK MEASURE -- PROBLEMS WITH CAPM ASSUMPTIONS -- IS BETA A RELIABLE RISK MEASURE? -- VARIATIONS OF CAPM RISK MEASURES -- DURATION -- YIELD SPREADS -- FUNDAMENTAL RISK -- SUMMARY -- Appendix 11A: Example of Computing Downside Beta Estimates -- INTRODUCTION -- COMPUTING DOWNSIDE BETA ESTIMATES -- Chapter 12: Size Effect -- INTRODUCTION -- MORNINGSTAR STUDIES -- DUFF & PHELPS STUDIES.

SUMMARY -- Chapter 13: Criticisms of the Size Effect -- INTRODUCTION -- IS THE SIZE EFFECT THE RESULT OF INCORRECTLY MEASURING BETAS? -- COMPOSITION OF THE SMALLEST DECILE -- DATA ISSUES -- RISKS OF SMALL COMPANIES -- RELATIONSHIP OF SIZE AND MEASURES OF RISK -- SUMMARY -- Appendix 13A: Other Data Issues Regarding the Size Effect -- SEASONALITY -- BID/ASK BOUNCE BIAS -- DELISTING BIAS -- TRANSACTION COSTS -- RISK FACTORS ARE TIME-VARYING -- Chapter 14: Company-Specific Risk -- INTRODUCTION -- ESTIMATING COMPANY-SPECIFIC RISK -- DISTRESS -- SUMMARY -- Chapter 15: Alternative Cost of Equity Capital Models -- INTRODUCTION -- ARBITRAGE PRICING THEORY -- FAMA-FRENCH 3-FACTOR MODEL -- MARKET-DERIVED CAPITAL PRICING MODEL -- YIELD SPREAD MODEL -- SUMMARY -- Chapter 16: Implied Cost of Equity Capital -- INTRODUCTION -- DISCOUNTED CASH FLOW METHOD -- RESIDUAL EARNINGS METHOD -- BUILDING A FORECAST -- SOURCES OF INFORMATION -- SUMMARY -- Chapter 17: Weighted Average Cost of Capital -- INTRODUCTION -- WHEN TO USE WEIGHTED AVERAGE COST OF CAPITAL -- VALUING THE LEVERED FIRM -- AFTER-TAX WEIGHTED AVERAGE COST OF CAPITAL -- PRETAX WEIGHTED AVERAGE COST OF CAPITAL -- SUMMARY -- ADDITIONAL READING -- Appendix 17A: Iterative Process Using CAPM to Calculate the Cost of Equity Component of the Weighted Average Cost of Capital When Capital Structure Is Constant -- INTRODUCTION -- CAPITAL ASSET PRICING MODEL AND BETA -- SOLUTION: THE ITERATIVE PROCESS -- ITERATIVE PROCESS USING A FINANCIAL SPREADSHEET MODEL -- SUMMARY -- ADDITIONAL READING -- Appendix 17B: Iterative Process Using CAPM to Calculate the Cost of Equity Component of the Weighted Average Cost of Capital When Capital Structure Is Changing -- INTRODUCTION -- ASSUMPTIONS INHERENT IN WEIGHTED AVERAGE COST OF CAPITAL -- SOLUTION: ITERATIVE PROCESS WITH CHANGING CAPITAL STRUCTURE.

ITERATIVE PROCESS USING FINANCIAL SPREADSHEET MODEL -- EQUITY VALUE -- SUMMARY -- ADDITIONAL READING -- Chapter 18: Global Cost of Capital Models -- INTRODUCTION -- RISKS -- COST OF EQUITY CAPITAL MODELS -- COUNTRY CREDIT RATING METHOD -- ADJUSTING FOR LOCAL COUNTRY RISK EXPOSURE -- OTHER SOURCES OF GLOBAL COST OF CAPITAL DATA -- ALTERNATIVE RISK MEASURES TO BETA -- EXPANDING GLOBAL MODELS TO INCORPORATE SIZE PREMIUM AND COMPANY-SPECIFIC RISK -- EXPANDED COST OF CAPITAL FORMULA -- SHOULD PROJECTED CASH FLOWS AND THE COST OF CAPITAL BE NOMINAL OR REAL? -- CAPITAL STRUCTURE -- SUMMARY -- DATA SOURCES -- ADDITIONAL READING -- Chapter 19: Using Morningstar Cost of Capital Data -- INTRODUCTION -- COST OF CAPITAL YEARBOOK -- MORNINGSTAR -- COST OF CAPITAL RESOURCES WEB SITE -- Part 3: Corporate Finance Officers: Using Cost of Capital Data -- Chapter 20: Capital Budgeting and Feasibility Studies -- INTRODUCTION -- INVEST FOR RETURNS ABOVE COST OF CAPITAL -- DCF IS BEST CORPORATE DECISION MODEL -- FOCUS ON NET CASH FLOW -- CAPITAL CASH FLOW AND ADJUSTED PRESENT VALUE METHODS -- USE TARGET CAPITAL STRUCTURE OVER LIFE OF PROJECT -- SUMMARY -- Chapter 21: Cost of Capital for Divisions and Reporting Units -- INTRODUCTION -- DIVISIONAL COST OF CAPITAL -- REPORTING UNIT COST OF CAPITAL -- NEW RULES FOR ACCOUNTING FOR BUSINESS COMBINATIONS -- SUMMARY -- ADDITIONAL READING -- Chapter 22: Cost of Capital in Evaluating Acquisitions and Mergers -- INTRODUCTION -- INVEST FOR RETURNS ABOVE COST OF CAPITAL -- COMMON MISTAKES -- DCF IS BEST CORPORATE DECISION MODEL -- FOCUS ON NET CASH FLOW -- COST OF CAPITAL IN ACQUISITIONS AND MERGERS -- USE TARGET CAPITAL STRUCTURE OF THE COMBINED COMPANY -- NEW RULES FOR ACCOUNTING FOR BUSINESS COMBINATIONS -- SUMMARY -- Chapter 23: Cost of Capital in Transfer Pricing -- INTRODUCTION -- TRANSFER PRICING ANALYSIS.

QUANTIFYING APPROPRIATE COSTS OF CAPITAL.