The cost of capital Essay Example | Topics and Well Written Essays - 750 words

The cost of capital - Essay ExampleThe formula determines the take into account expected return of alternative projects. The cost of capital is the amount that the investor has to pay in order to generate a series of future dividend incomes, return of investments (Sheridian, Martin & Keown, 2010). For example, Geoff pitch-dark (2010) reiterated the business earns $1,000,000 in one year. The profits leave behind grow by 2 percent per year, and the company generates a net worth of $16,666,667 after ii years. The cost of capital is arrived at as followsAfter computing the formula, X is equal to 8 percent cost of capital figure. Further, the cost of capital kitty include the return that the stock market investors are expected to earn from their investments in a company. The firm that generates revenues more than the amount of cost of capital will entice the companys current and prospective investors to invest additional funds into the invested companys coffers.For example, Microsoft generated a 53 percent return on its equity. The companys equity is $7.2 billion. Computing, the companys return on equity is $3.8 Billion. If the companys cost of capital is 14 percent, the companys cost of capital is $1.0 Billion. The companys residual income is $2.8 Billion. ($3.8 Billion - $ 1.0 Billion). Another term for the $2.8 Billion net income is residual income or Economic Value Added (EVA). low the Economic Value Added (EVA), management is faced with the financial question whether the assets can be better used in other areas or by new(a) management.