In a forthcoming paper, Fernandez (2002) claims to derive a formula for the valuation of debt tax shields for firms with cash flows that grow perpetually at a constant rate. We show that his formula is incorrect and provide an example where his valuation would admit arbitrage

Risk-neutral valuation is simple, elegant and central in option pricing theory. However, in teaching risk-neutral valuation, it is not easy to explain the concept of quot;risk-neutralquot; probabilities. Beginners who are new to risk-neutral valuation always have lingering doubts about the...

In this teaching note, we discuss the basic principles for tariff setting. Tariff setting is very important for regulated industries, such as water and power. The tariff should provide an appropriate risk-adjusted return to the investor. If the tariff were too low, then the investors would not...

Although perpetuities are somewhat artificial in the sense that in practice they do not exist, they are relevant because no matter how detailed and complex a forecasted financial plan for a firm or project could be terminal value usually is calculated as perpetuity. This terminal value might be...

It is widely known that if the leverage is constant over time, then the cost of equity and the Weighted Average Cost of Capital (WACC) for the free cash flow, FCF, is constant over time. In other words, it is inappropriate to use a constant WACCFCF to discount the free cash flow (FCF) if the...

Many firms have debt financing in a foreign currency. What are the tax implications of the foreign loan for the calculation of the Weighted Average Cost of Capital (WACC)? With a foreign loan, there are two effects. First, there is the standard tax savings from the interests deduction with the...

Many firms have debt financing in a foreign currency. What are the tax implications of the foreign loan for the calculation of the Weighted Average Cost of Capital (WACC)? With a foreign loan, there are two effects. First, there is the standard tax savings from the interest deduction with the...

Debt is rarely risk-free. Yet, on grounds of simplicity, in most discussions on the weighted average cost of capital (WACC), we assume that the debt is risk-free. At the same, in the calculation of the WACC, we may use a value for the cost of debt d that is higher than the risk-free rate rf. In...

It is widely known that if the leverage is constant over time, then the after-tax Weighted Average Cost of Capital (WACC) is constant over time. In other words, it is inappropriate to use a constant after-tax WACC to discount the free cash flow (FCF) if the leverage changes over time. However,...

It is widely known that if the leverage is constant over time, then the cost of equity and the Weighted Average Cost of Capital (WACC) for the free cash flow, FCF, is constant over time. In other words, it is inappropriate to use a constant WACCFCF to discount the free cash flow (FCF) if the...