Cost of capital

The cost of capital, although seemingly a technical category, represents one of the key concepts of modern corporate finance: a measure of investor confidence, an indicator of expected return, and a decisive variable in decisions on investment, business valuation, and the shaping of financial structure. This scientific monograph systematically connects theory and practice, the contemporary demands of capital markets, and the local context.

The first part addresses the conceptual aspects of the cost of capital — its significance, definitions, classification and determinants, the relationship between the discount rate and the capitalization rate, the inherent risks in business finance, and net cash flow as a measure of return and a determinant of value. The second part analyzes the structure of financing sources and the components of the cost of capital: equity, preferred shares, debt, hybrid and derivative instruments, flotation costs, and the weighted average cost of capital (WACC). The third part is devoted to models for estimating the cost of equity — from the CAPM, beta, and the market risk premium, through the country risk premium, dividend discount models, the APT and Fama-French models, to the build-up model and the valuation of equity as a call option. The fourth part covers capital structure theories: the Modigliani-Miller theorems, Miller's theory incorporating personal taxes, the traditional theory, the static trade-off and pecking order theories, other theories, as well as the impact of capital structure on shareholder value. The final part opens the cost of capital as an evolving concept — through sustainability, reputational risk, and forensic valuation.

Particular value is added by the numerous calculations adapted to the conditions of frontier capital markets, with examples from Bosnia and Herzegovina — 21 figures, 19 tables, and nine fully worked examples, from estimating the cost of debt to the WACC of a company in litigation. The book is intended for students of economics and corporate finance, as well as analysts, appraisers, auditors, and all finance professionals.