|
|||||
|
|
Required Rates of Return for Corporate Investment Appraisal in the Presence of Growth Opportunities |
|
| Authors: | Ian R C Hirst Jo Danbolt Eddie Jones |
| Institution: | 1. Department of Accountancy and Finance, School of Management and Languages, Heriot‐Watt University, Edinburgh, EH14 4AS, Scotland, UK E‐mail: I.Hirst@hw.ac.uk;2. Department of Accounting and Finance, University of Glasgow, Glasgow, G12 8QQ, Scotland, UK E‐mail: J.Danbolt@accfin.gla.ac.uk;3. Management School and Economics, University of Edinburgh, Edinburgh, EH8 9JY, Scotland, UK E‐mail: Eddie.Jones@ed.ac.uk |
| Abstract: | Traditional methods of estimating required rates of return overstate hurdle rates in the presence of growth opportunities. We attempt to quantify this effect by developing a simple model which: (i) identifies those companies that have valuable growth opportunities; (ii) splits the value of shares into ‘assets‐in‐place’ and ‘growth opportunities’; and (iii) splits the equity β into β for ‘assets‐in‐place’ and ‘growth opportunities’. We find growth opportunities for UK companies over the 1990–2004 period to average 33% of equity value. Incorporating the effect of growth opportunities, the average cost of capital for investment purposes falls by 1.1 percentage points. |
| Keywords: | cost of capital beta growth opportunities assets‐in‐place G31 |