Ross et al.: Fundamentals
of Corporate Finance, Sixth
Edition, Alternate Edition(^26) Front Matter Preface © The McGraw−Hill
Companies, 2002
xxvi CONTENTS
Case I: The Debt Is Risk-Free 469
Case II: The Debt Is Risky 469
14.6 Options and Capital Budgeting 471
The Investment Timing Decision 471
Managerial Options 473
Contingency Planning 474
Options in Capital Budgeting: An Example 475
Strategic Options 476
Conclusion 476
14.7 Options and Corporate Securities 477
Warrants 477
The Difference between Warrants and Call Options 477
Earnings Dilution 478
Convertible Bonds 478
Features of a Convertible Bond 478
Value of a Convertible Bond 479
Other Options 480
The Call Provision on a Bond 480
Put Bonds 481
Insurance and Loan Guarantees 481
14.8 Summary and Conclusions 482
PART SIX
Cost of Capital and Long-Term
Financial Policy 491
Chapter 15
Cost of Capital 493
15.1 The Cost of Capital: Some Preliminaries 494
Required Return versus Cost of Capital 494
Financial Policy and Cost of Capital 495
15.2 The Cost of Equity 495
The Dividend Growth Model Approach 495
Implementing the Approach 496
Estimating g 496
Advantages and Disadvantages of the Approach 497
The SML Approach 497
Implementing the Approach 498
Advantages and Disadvantages of the Approach 498
15.3 The Costs of Debt and Preferred Stoc k499
The Cost of Debt 499
The Cost of Preferred Stock 500
15.4 The Weighted Average Cost of Capital 501
The Capital Structure Weights 501
Taxes and the Weighted Average Cost of Capital 502
Calculating the WACC for Eastman Chemical 503
Eastman’s Cost of Equity 503
Eastman’s Cost of Debt 504
Eastman’s WACC 505
Solving the Warehouse Problem and Similar Capital
Budgeting Problems 507
Performance Evaluation: Another Use
of the WACC 509
15.5 Divisional and Project Costs of Capital 509
The SML and the WACC 509
Divisional Cost of Capital 511
The Pure Play Approach 511
The Subjective Approach 512
15.6 Flotation Costs and the Weighted Average
Cost of Capital 513
The Basic Approach 513
Flotation Costs and NPV 515
15.7 Summary and Conclusions 516
Chapter 16
Raising Capital 525
16.1 The Financing Life Cycle of a Firm: Early-Stage
Financing and Venture Capital 526
Venture Capital 526
Some Venture Capital Realities 527
Choosing a Venture Capitalist 527
Conclusion 528
16.2 Selling Securities to the Public: The Basic
Procedure 528
16.3 Alternative Issue Methods 529
16.4 Underwriters 531
Choosing an Underwriter 532
Types of Underwriting 532
Firm Commitment Underwriting 532
Best Efforts Underwriting 532
The Aftermarket 533
The Green Shoe Provision 533
Lockup Agreements 533
16.5 IPOs and Underpricing 534
IPO Underpricing: The 1999–2000 Experience 534
Evidence on Underpricing 534
Why Does Underpricing Exist? 539
16.6 New Equity Sales and the Value of
the Firm 541
16.7 The Costs of Issuing Securities 542
The Costs of Selling Stock to the Public 542
The Costs of Going Public: The Case of
Multicom 543
16.8 Rights 546
The Mechanics of a Rights Offering 546
Number of Rights Needed to Purchase a Share 547
The Value of a Right 548
Ex Rights 550
The Underwriting Arrangements 551
Rights Offers: The Case of Time-Warner 551
Effects on Shareholders 552
The Rights Offerings Puzzle 553
16.9 Dilution 554