WACC, beta, CAPM and the cost of equity


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Posted by Troy on March 27, 19100 at 13:32:51:

Damodaran and, of course, others use WACC as the discount rate when using valuing a firm using FCFF.
WACC has to include beta in the CAPM to produce required rate of return on equity.

Whether one uses ROIC or ROC less WACC, or values a firm using FCFF discounted by WACC, the bugbear is beta. I reckon there are as many possible betas for a stock as the grains of sand. One thing is true, and that is that a required rate of return on equity must be higher than the so-called risk free rate of return - a 10 or 30 year bond rate. As may perceive, I am trying to come up with an alternative to beta and CAPM, to produce a required rate of return on equity to then include in the WACC formula.

Someone mentioned that Buffett suggested that in the (10 or 30 year) bond rate is 7 per cent, then one should add on another 300 basis points to come up with a cost of equity figure.

Coul you please comment on the above? (Thank you for the effort in producing a comprehensive website on value investing; I have been coming back to it over the last couple of years and find the book reviews, analysis and commentaries most helpful. Well done.)




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