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The Cost of Capital for Financial Firms

Published online by Cambridge University Press:  10 June 2011

C. J. Exley  and
A. D. Smith
C. J. Exley
Affiliation:
Barclays Capital, 5 The North Colonnade, Canary Wharf, London E14 4BB, U.K., Email: [email protected]
A. D. Smith
Affiliation:
Deloitte & Touche LLP, Stonecutter Court, 1 Stonecutter Street, London EC4A 4TR, U.K., Email: [email protected]
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Abstract

Most businesses have assets financed by capital providers. The cost of capital is a measure of the returns required by those capital providers. Its main use is to set a target for the profits, which must be achieved on the firm's assets in order to satisfy equity and bond holders.

This paper describes the classical theory of the cost of capital, and then applies it to the special case of banking and insurance firms. We develop implications for product pricing, performance measurement and capital structure optimisation.

Keywords

Cost of CapitalCapital Asset Pricing ModelFranchise ValueMarket Consistent ValuationEmbedded ValueFranchise Insurance PremiumFrictional CostsTaxationPerformance Measurement
Type
Sessional meetings: papers and abstracts of discussions
Information
British Actuarial Journal , Volume 12 , Issue 1 , 01 March 2006 , pp. 229 - 283
Copyright
Copyright © Institute and Faculty of Actuaries 2006

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