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Leverage, Cost Of Capital And Bank Valuation

Author

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  • FEDERICO BELTRAME

    () (University of Udine, Department of Economics and Statistics, Via Tomadini 30/a, 33100, Udine, Italy)

  • STEFANO CASELLI

    () (#x2020;Bocconi University, Department of Finance, Via Sarafatti 25, 20136, Milan, Italy)

  • DANIELE PREVITALI

    (#x2021;Luiss University, Department of Business and Management, Viale Romania 32, 00198 Rome, Italy)

Abstract

In this paper, we present a model that demonstrates the effect of debt on cost of capital and value in the case of banking firms. Using a static partial equilibrium setting, both in a steady state and steady growth scenario, we derive a bank-specific valuation metric which separately attributes value to assets and debt cash flows in the form of a liquidity premium and tax-shield. We run our model on a sample of the largest 26 European banks from 2003 to 2016 finding that the value contribution of debt benefits to enterprise value is large and persistent. Further from our model, we derived an implied cost of capital (ICC) measure finding consistent results with capital asset pricing model (CAPM). The theoretical framework we present is helpful to address bank debt benefits valuation and to reconcile equity and asset side approaches.

Suggested Citation

  • Federico Beltrame & Stefano Caselli & Daniele Previtali, 2018. "Leverage, Cost Of Capital And Bank Valuation," International Journal of Modern Physics C (IJMPC), World Scientific Publishing Co. Pte. Ltd., vol. 6(01), pages 1-24, June.
  • Handle: RePEc:wsi:ijmpcx:v:30:y:2018:i:12:n:s2591768418500046
    DOI: 10.1142/S2591768418500046
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