
Weight Average Cost of Capital (WACC)
the proportion of debt, PS, and common equity in the optimal or target capital structure after tax

opportunity cost
a cash flow that a firm must forgo in order to accept a project; the return stockholders could earn on alternative investments of equal risk

floatation costs (F)
those occuring when a company issues a new security, including fees to an investment banker and legal fees

standalone risk
risk an investor takes by holding only one asset; variability of a project's expected returns; standard deviation

market risk
that part of a security's total risk that CAN'T be eliminated by diversification; measured by the beta coefficient;

corporate (diversifiable risk)
that part of a security's total risk associated with random events not affect the market as a whole; CAN be eliminated by proper diversification; a.k.a companyspecific risk

corporate valuation model
the total value of a company as the value of operations plus the nonoperating assets plus the value of growth options; the PV of expected cash flows discounted at the WACC

growth options
occurs if an investment creates the opportunity to make other potentially profitable investments that would not otherwise be possible; ex. options to expand output, to enter a new geographical market, & to introduce complementary products or successive generations of products

assetsinplace
land, building, machines, & inventory that the firm uses in its operations to produce its products & services & intangible= patents, customer lists, reputation, general knowhow; a.k.a operating assets; they generste FCF

horizon (terminal) value
the value of operations at the end of the explicit forecast period; equals PV of FCFs beyond the forecast period discounted back to the end of the forecast period at the WACC; firm can expect to recieve this much if it decided to sell it operating assets on this date

capital budgeting
the whole process of analyzing projects & deciding whether they should be included; a summary of planned investments of assets (used in production) that will last for more than 1 year; very important to the firm's future

net present value (NPV)
used to assess the PV of the project's expected future cash flows (inflow  costs), discounted at the appropriate cost of capital; a direct measure of the value of the project to shareholders; tells how much the project contributes to their wealth; large=more value=higher stock price

mutually exclusive projects
projects that CAN'T be performed at the same time; a company can chose 1 or the other or it can reject both; if the cash flows of 1 can be adversely impacted by the acceptance of the other

internal rate of return (IRR)
the discount rate that equates the PV of all the expected future cash inflows & outflows=costs; measures the rate of return on a project, but it assumes that all cash flows can be reinvested at this rate; forcing the NPV to equal 0

crossover rate
the cost of capital at which the NPV profiles of 2 projects intersect

modified IRR
assumes that cash flows from all projects are reinvested at the cost of capital, not the project's own IRR; this makes it a better indicator of a project's true profitability; causes the PV of the terminal value to equal the PV of the costs

probability index (PI)
found by dividing the project's PV of future cash flows by its initial cost; greater than 1 is equivalent to a project having a positive NPV; measures the bang for buck

payback period
the # of years it takes a firm to recover its project investment; measures a project's liquity=used as a risk measure; ignores the time value of money, ignores cash flows after this, & doesn't specify an acceptable time

discounted payback period
the # of years it takes a firm to recover its project investment based on discounted cash flows; indicates risk because cash flows expected in distant future are generally riskier=short better

economic life
the # of years the project should be operated to maximize its NPV & shareholder wealth; often less than the maximum potential life

capital rationing
occurs when management places a constraint on the size of a firm's capital budget during a particular period; limits capital expenditures to an amount less than would be required to fund the optimal capital budget; chooses not to fund all positive NPV projects

