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Long-Term Financing Paper
Introduction to Finance and Accounting
February 27, 2007
Long-Term Financing Paper
For a publicly traded company, shareholder value is the part of its capitalization that is equity as opposed to long-term debt. In the case of only one type of stock, this would roughly be the number of outstanding shares times current share price. Things like dividends augment shareholder value while issuing of shares (stock options) lower it. This Shareholder value added should be compared to average/required increase in value, also known as cost of capital. For a privately held company, the value of the firm after debt must be estimated using one of several valuation methods, such as discounted cash flow or others. Discounted Cash Flow (DCF) is used to determine a company's current value according to its estimated future cash flows. Forecasted free cash flows (operating profit + depreciation + amortization of goodwill - capital expenditures - cash taxes - change in working capital) are discounted to a present value using the company's weighted average costs of capital. The Capital Asset Pricing Model (CAPM) is used in finance to determine a theoretically appropriate required rate of return (and thus the price if expected cash flows can be estimated) of an asset, if that asset is to be added to an already well-diversified portfolio, given that asset's non-diversifiable risk. The CAPM formula takes into account the asset's sensitivity to non-diversifiable risk (also known as systematic risk or market risk), in a number often referred to as beta (â) in the financial industry, as well as the expected return of the market and the expected return of a theoretical risk-free a ...