Ex Ante Estimates of the Market Risk Premium

An alternative to the historically estimated market risk premium is an ex ante estimate, one based on the current value of the share market relative to projections of earnings or cash flows. One approach estimates the expected rate of return on the market portfolio, E(rm), by adding the analysts' consensus estimate of 10 E. Fama and K. French, ''Dividend Yields and Expected Stock Returns, Journal of Financial Economics (October 1988), pp. 3-26 A. Lo and C. MacKinlay, Stock Prices Do Not Follow...

Formula for Estimating the WACC

The general formula for estimating the after-tax WACC is simply the weighted average of the marginal after-tax cost of each source of capital where kb The pretax market expected yield to maturity on noncallable, nonconvertible debt Tc The marginal tax rate for the entity being valued2 B The market value of interest-bearing debt V The market value of the enterprise being valued V B P S kp The after-tax cost of capital for noncallable, nonconvertible preferred stock which equals the pretax cost...

Goodwill

We explicitly excluded goodwill, both the asset and the amortization, from the calculation of ROIC. In most cases, ROIC should be calculated both with and without goodwill. ROIC excluding goodwill measures the operating performance of the company and is useful for comparing operating performance across companies and for analyzing trends. It is not distorted by the price premiums paid for acquisitions made in building the company. ROIC including goodwill measures how well the company has used...

Implications of Market Inefficiency for Corporate Managers

Sometimes managers point to evidence of inefficiency in the stock market to justify their belief that the market behaves irrationally. These managers would argue that even academics are finding inefficiencies in the market, so any argument supporting the discounted cash flow approach would not 11 G. Mercer, ''A Review of Major Corporate Writeoffs, 1984-86 McKinsey amp Co., 1987 . 12 T. Copeland and W.H. Lee, Exchange Offers and Stock Swaps New Evidence, Financial Management, vol. 20, no. 3...

Cash Is King On October 1 1974

Nmei 12' r V oirit rate assumed, iourte Compustat. Exhibit 5.9 Evidence That the Market Reacts Favorably to Increases in Investment Exhibit 5.9 Evidence That the Market Reacts Favorably to Increases in Investment dividends over the next several years. For a random sample of 20 Fortune 500 companies, as shown in Exhibit 5.8, an average of only 9.2 percent of the total share value could be accounted for by dividends expected in the next five years. The largest percentage of value that the next...

Cash Is King

On October 1, 1974, the Wall Street Journal published an editorial lamenting the widespread focus on earnings per share as an indicator of value A lot of executives apparently believe that if they can figure out a way to boost reported earnings, their stock prices will go up even if the higher earnings do not represent any underlying economic change. In other words, the executives think they are smart and the market is dumb. . . . The market is smart. Apparently, the dumb one is the corporate...