Cost of Capital at Ameritrade Day 1
1.What factors should Ameritrade management consider when evaluating the proposed advertising program and technology upgrades? Why? -They should see how revenues have changed after adopting the new ad program and technology upgrades -They need to see ROI for their investments over time

2.How can the Capital Asset Pricing Model be used to estimate the cost of capital (required return) for calculating the net present value of a project's cash flows? - it will help us determine the Cost of capital or discount rate which we can use to calculate NPV, in other terms the numerator will never change (FCF), only the denominator will based on the cost of capital 3. What is the estimate of the risk-free rate that should be employed in calculating the cost of capiual for Ameritrade's proposed investment? - the risk free rate should be the T-bills rate or the average annualized total annual returns on US government securities = 3.8%. In my opinion, we should use the risk-free rate equal to yield of 20-year US government securities, because it is long-term capital investment. We may use 30-year rate, but we are investing in technology, and concerning the speed of technological enhancements, 20-year rate is optimal. So it is 6,69% 4. What is the estimate of the market risk premium that should be employed in calculating the cost of capital for Ameritrade's proposed investment? Market Risk Premium

Three distinct concepts are part of market risk premium:
1) Required market risk premium: the return of a portfolio over the risk-free rate (such as that of treasury bonds ) required by an investor; 2) Historical market risk premium: the historical differential return of the market over treasury bonds; and 3) Expected market risk premium: the expected differential return of the market over treasury bonds. Also called equity premium, market premium and risk premium.

Market Risk Premium = Expected Return of the Market – Risk-Free Rate The...

...return on the assets of a firm or the expected rate of return on the firm’s debt and equity? Assume you are an outsider to the firm.
3. Why are market-based weights important?
4. Why is the coupon rate of existing debt irrelevant for finding the cost of debt capital?
5. Under what assumptions can the WACC be used to value a project?
6. How should you value a project in a line of business with risk that is different than the averagerisk of your firm’s projects?
7. Maltese Falcone, has not checked its weighted average cost of capital for four years. Firm management claims that since Maltese has not had to raise capital for new projects since that time, they should not have to worry about their current weighted average cost of capital since they have essentially locked in their cost of capital. Critique this statement.
8. Your manager just finished computing your firm’s weighted average cost of capital. He is relieved because he says that he cannot use that cost of capital to evaluate all projects that the firm is considering for the next four years. Evaluate this statement.
9. How should you adjust for the cost of raising external financing? (floatation costs)
10. Geothermal’s WACC I 11.4%. Executive Fruit’s WACC is 12.3 percent. Now executive Fruit is considering an investment in geothermal power production. Should it discount project cash flows at 12.3%? Why or...

...Risk Analysis on Investment Decisions
Investment techniques used in corporate finance when making decisions on projects usually focuses on cash flows of the firm (Ross, Westerfield, and Jaffe, 2004). Because of drastic changes in the business environment over the last decade, managers are requesting better, more accurate information, and improved techniques to meet company needs for making major decisions with data consisting of clear goals, a planned design, high ethics, revealed limitations, adequate analysis, and justified conclusions (Cooper and Schindler, 2003). In this paper, the methods of net present value and internal rate of return are examined based on real-world capital budgeting decisions. This paper also gives insight on valuation techniques used to determine internal and external investment decision strategies and the risk associated with the investment decisions.
In the Capital Budgeting Simulation, Silicon Arts Incorporated (SAI) is a four-year old company that produces digital imaging integrated circuits (IC) used in computers, digital cameras, medical and scientific equipment, and DVD players. The company presents a strong front in North America, generating 70% in sales annually, capturing 20% in sales in Europe, and 10% in sales in South East Asia. SAI's annual sales turnover is $180 million. In the last few years, Silicon Arts Incorporateds revenues have decreased...

...Interest paid Rs. 4.99 Crores, Long term borrowing =Rs. 46.76 Crores
Rate = 10.67%
TAX = 30% (from revenue account)
Debt has an annual interest rate of 10.67% and the tax rate is 30%, the after-tax cost of debt is 7.47%. The computation is:
10.67% interest rate X (100% minus 30% tax rate)] = [10.67% X 70%] = 7.47%.
(Source: http://www.moneycontrol.com/annual-report/asianpaints/AP31/2013)
3. How much debt does your company have?
From Balance Sheet
Total Debt is Total Non-Current Liability = Rs 267.36Crores
Total equity = 95.9+2926.3 = Rs. 3022.26 Crores
(Source: http://www.moneycontrol.com/annual-report/asianpaints/AP31/2013)
4. What is the market-value of equity of your company?
MV of equity= no of outstanding shares* current stock price
No of outstanding shares = 95.92 Crores
Current stock price = Rs. 495.85
Market Value of equity = 95.92*495.85= Rs 47561.93 Crores
(Source: http://www.moneycontrol.com/annual-report/asianpaints/AP31/2013)
5. What is the Debt/Equity percentage (ratio) of your company?
Long term Debt is borrowing = Rs. 54.1 Crores
Total equity = 95.9+2926.3 = Rs. 3022.26 Crores
Long term debt equity ratio is 0.02:1
= 54.1/(95.9+2926.3)= 0.017 = 0.02
(Source: http://www.moneycontrol.com/annual-report/asianpaints/AP31/2013)
6. What is the Debt/Equity percentage of your company's competitors?
Competitor
Debt/Equity ratio
Berger Paints
0.07
Kansai Nerolac Paints
0.05
Akzo Nobel India
0.00...

...InvestmentRisk in Stock Market Securities
Introduction:
Stories of people making fortunes from the securities market have enticed many others into risky investments. Congress created the Securities & Exchange Commission (SEC) to protect investors. Many corporation managers became greedy and made self-serving decisions that created the principle-agent problems. The solutions for these problems lead to more unethical behavior from management. The creative use of financial statements even tricked analysts and brokers. Public trust began to erode with unethical corporation behavior. Analyst's suspicions of some corporations cooking the books were confirmed with an announcement from WorldCom. The public's distrust started to mount while accusing brokers of hyping stocks. People began to invest without brokers' advice. With numerous risks rising for individual investors, Congress passed the Sarbanes-Oxley Act and the SEC responded by passing the Reg AC act.
Ordinary Investors Enter the Market:
Golden opportunities lie ahead for those who invest well in stock market securities. "The stock market, which was once the province of the very rich, is now easily accessible to millions of ordinary investors." (Ethical Issues in Financial Services). Ordinary investors have flooded stock market securities with money in hopes of striking it rich....

...the risk-free rate and the market portfolio. Indicate any advantages or disadvantages if there are any.
* The estimation of the expected marketriskpremium is crucial. You must carefully explain what you do and any assumption you make.
RiskPremium Estimation. Two approaches you could use to estimate the Equity RiskPremium:
* Assume that expected return on the market portfolio is related to a Macroeconomic variable, e.g., GDP. Then use the expected changes in the macroeconomic variable, with appropriate probabilities to estimate expected return on the market portfolio. Subtract the RFR from the expected return estimated and arrive at your equity riskpremium. Don’t forget to multiply this by the beta value.
* Implied equity premium. This assumes that the overall market is correctly priced.
The valuation model suggests value equals:
Value = Expected Dividends Next Period/ (Required Return on Equity - Expected Growth Rate)
This is the present value of dividends growing at a constant rate. We can obtain three of the four inputs in this model can be obtained externally:
* the current level of the market (value) of the index,
* the expected dividends next period, and
* the expected growth rate in earnings and...

...
Equity RiskPremiums (ERP): Determinants, Estimation and
Implications – The 2013 Edition
Updated: March 2013
Aswath Damodaran
Stern School of Business
adamodar@stern.nyu.edu
Electronic copy available at: http://ssrn.com/abstract=2238064
2
Equity RiskPremiums (ERP): Determinants, Estimation and
Implications
Equity riskpremiums are a central component of every risk and return model in finance and are a key input in estimating costs of equity and capital in both corporate finance and valuation. Given their importance, it is surprising how haphazard the estimation of equity riskpremiums remains in practice. We begin this paper by looking at the economic determinants of equity riskpremiums, including investor risk aversion, information uncertainty and perceptions of macroeconomic risk. In the standard approach to estimating equity riskpremiums, historical returns are used, with the difference in annual returns on stocks versus bonds over a long time period comprising the...

...How can risk influence riskpremium? How are risk and return related?
Risk and return are the fundamental basis upon which investors make their decision whether or not they should invest in a particular investment. How they are related and the influence between the two, is the decision making process that all investors must weigh up. This essay will show how risk can influenceriskpremium, outlining their relationship and how risk and return are related.
Within any investment there is a certain amount of risk, which must be taken into account by an investor when deciding to invest. Risk is defined as the chance of financial loss or, more formally the variability of returns associated with a given asset. (Gitman, et al., 2011, p. 208) This concept in finance is the idea that all investment carries a risk, the higher the risk, the greater the return, however the adverse is also relevant, when the risk of an investment is lower the return is expected to also be lower. However, with all investment there is never a guarantee of return.
Return is the total gain or loss experienced on an investment over a given period of time. It is measured by the asset’s cash distributions plus change in value,...

...The fact is that you cannot get rich without taking risks. Risks and rewards go hand in hand; and, typically, higher the risk you take, higher the returns you can expect. In fact, the first major Zurich Axiom on risk says: "Worry is not a sickness but a sign of health. If you are not worried, you are not risking enough". Then the minor axiom says: "Always play for meaningful stakes".
The secret, in other words, is to take calculated risks, not reckless risks.
In financial terms, among other things, it implies the possibility of receiving lower than expected return, or not receiving any return at all, or even not getting your principal amount back.
Every investment opportunity carries some risks or the other. In some investments, a certain type of risk may be predominant, and others not so significant. A full understanding of the various important risks is essential for taking calculated risks and making sensible investment decisions.
Seven major risks are present in varying degrees in different types of investments.
Default risk
This is the most frightening of all investmentrisks. The risk of non-payment refers to both the principal and the interest. For all unsecured loans, e.g. loans based on...