StudentShare
Contact Us
Sign In / Sign Up for FREE
Search
Go to advanced search...
Free

Estimation of the Weight of Capital - Assignment Example

Cite this document
Summary
The paper "Estimation of the Weight of Capital" discusses that GE has only two forms of capital namely debt and equity. As such, GE's weight of debt is 0.8214, which is the debt proportion of total capital, while the weight of equity is 0.1785, which is the equity proportion of total capital…
Download full paper File format: .doc, available for editing
GRAB THE BEST PAPER98.8% of users find it useful
Estimation of the Weight of Capital
Read Text Preview

Extract of sample "Estimation of the Weight of Capital"

The cost of debt refers to the effective rate at which a firm pays to use debt finance. The value is considered to be the proportion of interest on the entire debt value. However, this can be viewed in two approaches namely cost of debt before tax and cost of debt after tax. As such, the cost of capital before tax will therefore refer to the effective rate an organization pays for it to use debt finance without incorporating tax while the cost of debt after tax will refer to the effective rate in which an organization will pay to use debt finance while considering tax. About GE, the company pays 5.56% for its debt finance annually before tax. The value will translate to 5.35% cost of debt after tax.

This implies that the proportion of interest on the entire debt value before considering tax is 5.56% while the proportion of interest considering tax is 5.35%. Also, the measure of the cost of debt reflects the risk level of an organization when compared to others. Therefore, when a company records a higher rate in its cost of debt than another, then it means investing in that company will be more risky. Therefore, a firm that has a cost of debt before tax greater than 5.56% and a cost of debt after tax greater than 5.35% is more risky to invest in than GE.

Cost of capital is another element that factors greatly in evaluating company performance. Cost of capital refers to the theoretical return an organization will pay for its equity finance as compensation for the risk they undertake in investing in that firm. Currently, GE has a cost of equity rate of 8.81%.

The value is averaged by summing the risk-free rate with measures of the reward for bearing systematic risk. Therefore, this implies that GE pays 8.81% annually over the long term as compensation to their equity finance providers. However, computing the rate using CAPM has some inherent flaws. The reason behind this view is that the approach uses the S&P average from the year 1950 to 2013. Also, the rate uses the US 10-year Treasury bill as its benchmark for the risk-free rate. The value is prone to daily changes in the market. However, despite the flaws, the value is a good estimator of the cost of equity. This is because the figure that is obtained has little material difference from other methods such as the Gordon model.

WACC refers to the computations of the cost of capital that aim at equally weighting the cost of capital of an organization. Therefore, the value of WACC outlines the amount of interest the organization pays for every dollar which is available as part of its capital. However, to compute WACC, tax rate, cost of capital, cost of equity, total debt, and total equity has to be known. Therefore, applying the relevant formulae to combine these values, the organization has a WACC value of 5.97%. The value means that the organization pays 5.97% on every dollar which translates to 0.597 cents for each dollar. Therefore, this will also mean that for every one-dollar investment that the organization makes, the organization has to realize a return of 0.597 for such investment to be feasible for the firm.

Question Two
The monthly installments that are payable for the loan are $ 1741. 50
For tax purposes, Mr. Davidson has paid an interest amount of 11382.28 which he can use for tax reduction. The amount is the interest that spans from April to December of 2014 (1-9 payments) Read More
Cite this document
  • APA
  • MLA
  • CHICAGO
(“Mini Project Assignment Example | Topics and Well Written Essays - 500 words”, n.d.)
Mini Project Assignment Example | Topics and Well Written Essays - 500 words. Retrieved from https://studentshare.org/finance-accounting/1639119-mini-project
(Mini Project Assignment Example | Topics and Well Written Essays - 500 Words)
Mini Project Assignment Example | Topics and Well Written Essays - 500 Words. https://studentshare.org/finance-accounting/1639119-mini-project.
“Mini Project Assignment Example | Topics and Well Written Essays - 500 Words”, n.d. https://studentshare.org/finance-accounting/1639119-mini-project.
  • Cited: 0 times

CHECK THESE SAMPLES OF Estimation of the Weight of Capital

Identify and Evaluate the Sources of Long-Term Finance Available to the Company

TASK 1: Estimate the Weighted Average Cost of Capital for Made-Up PLC The author will now undertake the estimation of the company's weight average cost of capital (WACC) by estimating the cost of capital from each financial source of the company.... This report will, firstly, identify the company's sources of finance, calculate a cost of capital of each source, and estimate the weighted average cost of capital.... ,130m One method which can be used to estimate the cost of ordinary shares is capital Asset Pricing Model (CAPM)....
4 Pages (1000 words) Essay

Cost Estimation Plans for Sydney Harbour Tunnel

n the next section of this essay we will focus on the various assumptions made during the cost estimation of the STH plan.... In case of STH this step was taken with over estimation of the traffic volume which had to travel from the North to the South part of the city or otherwise was very low as compared to that estimated by the project planners at the time of forecasting demand of the tunnel.... nternational rating agency, Standard and Poor's also confirmed the over estimation of the traffic volume for the tunnel and reported that total traffic forecast was 20-30 % escalated of the actual traffic volume. ...
10 Pages (2500 words) Coursework

Strategic Corporate Finance( case study)

The NAV per share represents the value of each share of the company, in this case, WM Morrison's Supermarkets LC (Brealey, Myers and Allen, 2008). ... ... n case of corporations, such NAV per share is.... ... ... It is therefore not striking to note that the market price per share prevails at £196....
10 Pages (2500 words) Case Study

Vary Framework and Its Utility in Risk Management

With increased risk brought about by the arrival of derivative markets as well as floating exchange rates within early 1970s, there was refinement as well as expansion of capital requirements within the Uniform Net Capital Rule of SEC, which was promulgated in the year 1975 (Split History, 2015).... The data is not used for estimation of variances as well as covariances looking forward, due to the fact that changes within the portfolio with time produce all required information for calculating VaR....
12 Pages (3000 words) Coursework

The Strategy of Chipotle Mexican Grill

% cost of capital assumption hence reinforcing the narrow economic moat rating.... ost of capital ... ACC is calculated from the product of capital structure components with their individual cost per component.... ACC (Weighted average cost of capital), proportion of equity (ws), proportion of debt (wd), marginal cost of debt (Rd), marginal tax rate (tax), and marginal cost of common stock equity (Rs).... capital leases and ROIC will improve to mid-20% range as to compared to postulated 10....
10 Pages (2500 words) Coursework

Works Measurement and Methods of Approximate Estimating

Although fundamentally based on Great Britain and thereafter UK practice, the necessity for a coordinated set of guidelines and the underlying concept behind the this new order of cost estimation and cost planning for the capital building projects, has a worldwide applications.... n this type of approximate estimation, the projected estimate is split into different segments and cost of each segment is computed separation and the final cost calculated by summing up individual segments' costs (Neil Sinclair 1989)....
5 Pages (1250 words) Assignment

Economic Models with Parameters

Lack independence of the Y value has made the estimation of analysis unreliable.... The paper "Economic Models with Parameters" discusses that the OLS assumption states that the regression model should be linear in parameters.... The errors need to be statistically independent of each other, and the independent variable's measurement needs to be done precisely....
16 Pages (4000 words) Case Study
sponsored ads
We use cookies to create the best experience for you. Keep on browsing if you are OK with that, or find out how to manage cookies.
Contact Us