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There exists circularity between WACC and value? Another solution

Listed author(s):
  • Ignacio Vélez-Pareja,


  • Julián Benavides-Franco


Although we know there exists a simpleapproach to solve the circularitybetween value and the discount rate,known as the Adjusted Present Valueproposed by Myers, 1974, it seemsthat practitioners still rely on thetraditional Weighted Average Cost ofCapital, WACC approach of weightingthe cost of debt, Kd and the costof equity, Ke and discounting the FreeCash Flow, FCF. We show how to solvecircularity when calculating valuewith the free cash flow, FCF and theWACC. As a result of the solution wearrive at a known solution when weassume the discount rate of the tax savings as Ke, the cost of unleveredequity: the capital cash flow, CCF discountedat Ku. When assuming Kdas the discount rate for the tax savings,we find an expression for calculatingvalue that does not impliescircularity. We do this for a singleperiod and for N periods.

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Article provided by UNIVERSIDAD ICESI in its journal ESTUDIOS GERENCIALES.

Volume (Year): (2006)
Issue (Month): (March)

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Handle: RePEc:col:000129:003998
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