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Mastering Cash Flow and Valuation Modelling by Alastair Day

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11

Cost of capital

Background

Cost of debt

Preference capital

Historic cost of equity

Forecast cost of equity

Cost of capital

Graphical representation

Summary

BACKGROUND

The model needs to value the cash flows generated by the forecast accounts and requires a risk-adjusted cost of capital to reflect the proportions and the cost of each source of capital. The cash flows produced by a distinct mix of capital can then be discounted at a suitable merged rate. It would be wrong to add a margin onto the debt rate and take an average as the discount rate since the resulting rate would over- or underestimate the real cost. The cash flow and the present value of these cash flows are the key sources of value. The selection of a reasonable rate will ...

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