Capital Structure on Valuation
22 Pages Posted: 10 Feb 2016
Date Written: December 8, 2015
Abstract
Although there is a strong consensus that the weights in the cost of capital calculation must be market value weights, in a business valuation, appraisers do not use an unique approach to estimate the capital structure that will prevail in the future. In fact, both practitioners and academics have different takes on this matter. The methodologies proposed are the use of book values, a target capital structure which presumably would be the optimal and the use of the industry average capital structure, assuming that it also would be the optimal. All of these approaches have controversial issues and yield some mathematical inconsistencies. In this paper we disentangle some of these issues and propose a different approach which solves the mathematical inconsistencies and it is also suggested for closely-held companies, since it bypasses the absence of market values.
Keywords: capital structure, valuation, book values, market values, target capital structure, weighted average cost of capital, price book value multiple, emerging markets.
JEL Classification: G24, G32, G34
Suggested Citation: Suggested Citation