In this long-awaited Third Edition of Cost of Capital: Applications and Examples, renowned valuation experts and authors Shannon Pratt and Roger Grabowski address the most controversial issues and problems in estimating the cost of capital. This authoritative book makes a timely and significant contribution to the business valuation body of knowledge and is an essential part of the expert's library.

Shannon P. Pratt, CFA, FASA, MCBA, CM&AA, is the Chairman and CEO of Shannon Pratt Valuations, Inc., and is the founder and Editor Emeritus of Business Valuation Resources, LLC. He is the author or coauthor of several industry standards, including Valuing a Business: The Analysis and Appraisal of Closely Held Companies, Valuing Small Businesses and Professional Practices, The Market Approach to Valuing Businesses, Standards of Value, Business Valuation and Taxes, The Lawyer's Business Valuation Handbook, and Cost of Capital.

Roger J. Grabowski is managing director of Duff & Phelps LLC. He has testified in court as an expert witness, including the Northern Trust case, the first U.S. Tax Court decision that adopted the discounted cash flow method to value the stock of a closely held business with the discount rate based on the capital asset pricing model. Roger coauthors the annual Duff & Phelps's Risk Premium Report. He is also the editor of Business Valuation Review.

Praise for the Third Edition of Cost of Capital

"Shannon Pratt and Roger Grabowski have not only brought together all of the issues in the cost of capital computation but have done so in a way that melds timely advice for practitioners with serious debate about the best practices in the area; it belongs on the bookshelves of serious valuation practitioners."
—Aswath Damodaran, Professor, New York University, Stern School of Business

"One of the four traits of great executives is their understanding of the fundamental reality of wealth creation—successful organizations invest to earn a rate of return in excess of their cost of capital. Organizations need assistance in better understanding and estimating the cost of capital and in communicating their results. This book can be a valuable tool for executives and their organizations."
—Geoffrey Colvin, Editor at Large, Fortune

"Cost of Capital, authored by two of the leading valuation experts in North America, is a comprehensive resource for financial professionals engaged in business appraisal, fair value measurement for financial reporting, corporate finance, damage quantification, and transfer pricing. This authoritative book makes a timely and significant contribution to the business valuation body of knowledge and is clearly an essential part of the expert's library."
—Richard M. Wise, FASA, MCBA, CVA, FCBV, FCA, Managing Partner, Wise, Blackman LLP

"I do not think you will find, anywhere, as comprehensive a book on cost of capital as this impressive Third Edition. Pratt and Grabowski have presented a great deal of valuable research in a very understandable manner. They also provide information and opinions that challenge some generally accepted data sources and applications, particularly, as it pertains to equity risk premiums. This book is a must-read."
—James R. Hitchner, CPA/ABV, ASA, Managing Director, The Financial Valuation Group, Editor in Chief, Financial Valuation and Litigation Expert journal

"Shannon Pratt and Roger Grabowski have combined painstaking research and writings from other contributors, with thoughtful commentary, views and advice surrounding the topic of the cost of capital, into a single volume. It is written in a style that should appeal to a wide variety of constituents. It advances the state of reference material on this topic for valuation practitioners and will also provide a solid foundation for continued debate and research on the topic for many years to come."
—Anthony V. Aaron, Americas Leader, Quality and Risk Management, Ernst & Young Transaction Advisory Services

Acknowledgments.

Introduction.

Notation.

Part I. Cost of Capital Basics.

1. Defining Cost of Capital

2. Introduction to Cost of Capital Applications: Valuation and Project Selection.

3. Net cash flow: The Preferred Measure of Return.

4. Discounting versus Capitalizing.

5. Relationship between Risk and Cost of Capital.

6. Cost Components of a Company's Capital Structure.

7. Weighted Average or Overall Cost of Capital.

Appendix 7.1. Iterative Process Using CAPM to Calculate the Cost of Equity component of the Weighted Average Cost of Capital - Constant Capital Structure.

Appendix7.2. Iterative process using CAPM to calculate the cost of Equity component of the weighted average cost of capital - changing capital structure.

Part II. Estimating the Cost of Equity Capital "As If Publicly Traded".

8. Equity Risk Premium.

8.1 Appendix.

9. Build-up models.

10. Capital Asset Pricing Model (CAPM).

11. Proper Use of Beta.

12. Criticisms of CAPM and Beta versus Other Risk Measures.

13. Size Effect.

14. Criticisms of Size Effect.

14.1 Appendix.

15. D&P Risk Study.

16. Alternative models to the Build-Up and CAPM models Fama-French, APT, Market derived capital pricing model, Yield-Spread Model.

17. DCF Method.

18. Global Cost of Capital models.

19. Using Morningstar/Ibbotson Associates Cost of Capital Data.

Part III. Corporate Financial Officers - Using Cost of Capital Data.

20. Capital Budgeting and Feasibility Studies.

21. Cost of capital for divisions/reporting units.

22. Cost of capital in valuing acquisition/merger.

23. Cost of capital in transfer pricing.

24. Cost of capital in Economic Value Added Financial Management System.

Part IV. Cost of Capital for Closely-Held Entities.

25. Handling the Discount for Lack of Marketability For Operating Businesses.

26. The Private Company Discount.

27. Pass-through Entities: Partnerships LLCs and S corps.

27.1 Appendix.

28. Private Investment Companies.

29. Venture Capital Investments

Part V. Other Topics.

30. Minority versus Control Implications of the Cost of Capital Data.

31. How Cost of Capital Relates to Excess Earnings Method.

32. Adjusting the discount rate to alternative economic Income Measures.

33. Equivalence With Alternative Cash Flow Methods For Valuing Companies.

34. Common Errors In Estimation and Use of Cost of Capital.

35. Cost of Capital In the Courts.

Part VI. Real Estate and Ad Valorem.

36. Cost of Capital For Real Estate Investments.

36.1 Appendix. Valuing Real Property.

37. REITs.

37.1 Appendix.

38. Cost of capital in Ad Valorem Taxation.

Part VII. Advice to Practitioners.

39. Dealing with Cost of Capital Issues - Advice from the Authors.

40. Cross Examining Experts On Cost of Capital

Appendices.

Appendix A. Bibliography.

Appendix B. Data Sources.

Appendix C. International Glossary of Business Valuation Terms.

Appendix D. Roger Grabowski's Cost of Cap…