Robert A. Taggart

Consistent Valuation and Cost of Capital Expressions with Corporate and Personal Taxes

This paper examines three valuation methods, each of which should lead to the same value for a given asset. These are the Adjusted Present Value, Adjusted Discount Rate and Flows to Equity methods. To achieve identical valuations, however, the different methods must be implemented with cost of capital expressions that embody a consistent set of assumptions about (1) the tax regime and (2) the time pattern and riskiness of debt tax shields. Valuation and cost of capital expressions that have been proposed in the literature are grouped and contrasted according to these assumptions. It is also shown that the familiar weighted average cost of capital can be consistent with any such set of assumptions, as long as the correct expression is used to estimate the relationship between the levered and unlevered cost of equity.

Effects of Regulation on Utility Financing: Theory and Evidence

This paper examines the financing decisions of regulated public utilities. It is argued that the regulatory process affects utility financing choices both by conditioning the environment in which these choices are made and by creating opportunities for firms to influence the regulated price through strategic financing behavior. The nature of this regulatory effect continually changes, however, as economic conditions change and as regulators, firms and consumers adapt to one anothers decisions. The direction of the impact on utility financing, therefore, may differ both over time and across regulatory jurisdictions. This theory of regulatory influence is tested by examining several episodes in the financing experience of U.S. electric utilities from 1912 to 1979. Evidence of a regulatory effect on utility financing is found particularly for the early years of state commission regulation. Examples of an adaptive response pattern on the part of regulators, firms and consumers are also cited.

The Opportunity Cost of Using Excess Capacity

When a new project proposal calls for the use of existing, but currently idle, facilities, an opportunity cost should be charged to the new project for using those facilities. Capacity in place gives the firm an option to produce. When capacity is not available, the firm has an option to invest. The true opportunity cost of using the excess capacity is the change in the value of the firms options that is caused by diverting capacity to some other purpose. Techniques exist for estimating this cost, but we argue that they ignore the option elements of the problem. We show that the true opportunity cost can vary widely in different circumstances and that existing measurement techniques err primarily by focusing oil the cost of specific investment programs rather than on the value of a firms production and investment options.

A Model of Regulation under Uncertainty and a Test of Regulatory Bias

This model of an electric utility views the regulator as setting price with the firm choosing ex ante capital and labor inputs and responding to ex post demand with its fuel input and the services of the ex ante inputs. If the firm anticipates that its choice of capital stock will influence the price set by the regulator, inefficient production many result. An empirical study of 48 electric utilities in 1970 suggests that undercapitalization may be present and that regulators set price below that which unregulated firms would set given their chosen capital stock.

Quantitative Analysis for Investment Management.

(NOTE: Each chapter concludes with a Summary, Suggestions for Further Reading, Problems and Questions, and Appendices.) I. ANALYSIS OF INDIVIDUAL SECURITIES. 1. Fixed Income Security Prices and Yields. 2. Option-Free Bonds: Measuring and Managing Interest Rate Risk. 3. The Term Structure of Interest Rates. 4. Equities: The Discounted Cash Flow Approach. 5. Principles of Option Pricing. 6. Fixed Income Securities with Call and Prepayment Options. 7. Other Options Embedded in Bonds and Equity. 8. Forward and Futures Contracts. II. ANALYSIS OF PORTFOLIOS OF SECURITIES. 9. Investor Preferences and Attitudes Toward Risk. 10. Fundamentals of Portfolio Analysis: The Generic Portfolio Problems. 11. Capital Market Equilibrium and the Pricing of Securities. 12. Active Portfolio Strategies. 13. Performance Evaluation and the Organization of Portfolio Management. Index.

Capital Budgeting and the Financing Decision: An Exposition

* A gap in the literature on the relationship between capital structure and capital budgeting currently confronts students of financial management. In the standard textbooks (Van Horne [11] and Weston and Brigham [13], for example), capital budgeting is usually taken up early, in the context of all-equity financing. The capital structure decision is treated later, under the general rubric of firm valuation, and it is noted that capital structure can react back on the capital budgeting decision through variation in the weighted average cost of capital. While this separate treatment avoids undue complication early in the students exposure to basic financial concepts, it sometimes results in a lingering confusion. A number of different cost of capital measures are usually introduced in the discussion of capital structure and firm valuation, and how or whether all of these measures may be used in capital budgeting is not always clear. If the student then turns to the more advanced literature, he becomes entangled in a continuing controversy over the proper use and measurement of the cost of capital (Ang [1], Beranek [2], Lewellen [4], Myers [8] and Nantell and Carlson [9], to name only a few). This article attempts to better integrate analysis of the capital structure and capital budgeting decisions on a relatively straightforward level. The capital budgeting decision is viewed as a valuation problem, and three capital budgeting procedures (the net present value, adjusted present value and flows-to-equity methods) are seen to correspond to different ways of approaching firm valuation. The analysis in this article rests on a number of simplifying assumptions under which all of the valuation methods and capital budgeting procedures are equivalent. The objective is to highlight the relationships among different cost of capital measures and equip the interested reader to pursue controversial points in the more advanced literature.

Deregulation of Deposit Rate Ceilings in the United States: Prospects and Consequences

Interest rates paid by depository financial institutions on demand, savings and time accounts have been limited by law for more than forty years now in the United States. Although these rate ceilings have frequently been attacked by economists on grounds of both equity and efficiency, efforts to dismantle them have so far met with little success. Quite recently, however, prospects for change appear to have brightened. President Carter has urged Congress to do away with all deposit rate ceilings, and administration officials have expressed optimism that this change may be implemented.2