Presented By:- Deboli Debolina na Bhatta Bhattacha charje rjee e Roll No:-74
Cost of capital Cost of capital is defined as the minimum rate of return that a firm must earn on its investment for the market value of the firm to remain unchanged.
In simple words, Investors expects returns in their investments . Company consider the return required as cost of capital
Components of Cost Of Capital The cost of capital is visualised as being composed of several elements.The main components are: Equity Capital Debt Holders Hybrid Securities
Importance of Cost of capital Cost of capital provides a yardstick to measure the worth of investment proposal and thus performs the role in accept-reject criterion.
Cost
of debt:-It is the after tax cost of longterm funds through borrowing.
Cost
Cost
of preference share:-It may be defined as the dividend expected by the preference share holders. of equity:-It is the minimum rate of return that afirm must earn on the equityfinanced portion of an investment project in order to leave unchanged the market price of the share.
Factors affecting cost of capital Factors affecting cost of capital
Controllable
factors
Company Logo
Uncontrolla ble factors.
Controllable Factors These are the factors affecting cost of capital that the company has control over. 1. Capital Structure Policy
As we have been discussing above, a firm has control over its capital structure, targeting an optimal capital structure. As more debt is issued, the cost of debt increases, and as more equity is issued, the cost of equity increases.
2.Investment
Policy It is assumed that, when making investment decisions, the company is making investments with similar degrees of risk. If a company changes its investment policy relative to its risk, both the cost of debt and cost of equity change. 3. Operating and Financing Decisions It is risk associated with the projects undertaken,If the firm accepts a project that is considerably more risky than average,the supppliers of the funds are quite likely to increase the cost of fund. ± Affect business risk ± Affect financial risk
Uncontrollable
factors
These are the factors affecting cost of capital that the company has no control over: 1.Level
of Interest Rates The level of interest rates will affect the cost of debt and, potentially, the cost of equity. For example, when interest rates increase the cost of debt increases, which increases the cost of capital.
2Tax
Rates Tax rates affect the after-tax cost of debt. As tax rates increase, the cost of debt decreases, decreasing the cost of capital.
3. General Economic
Conditions
± Economic conditions have grater impact on the operating profit of the firm.as In the case of unfavourable economic conditions,The suppliers of the fund will increase the cost of fund.
4.Market Conditions - When the marketing condition is not favourable and The risk associated with projects also increases and the supplier of the fund demands more return investment.
