WACC measures on emerging markets are increasingly used by most international companies for financial performance measurement and decision. TAC is providing such measures on a customized basis and has developed a method that allows to compute the cost of capital in all of the 50 emerging countries included in RiskMonitor.

A company uses different types of funds to finance its activities. These capital structures can be very different from one company to another. In 1958, Modigliani and Miller showed that these structures do not affect the cost of capital when the markets are perfect and there is no taxation. In the real world, companies have to pay taxes and markets are not perfect, therefore structures of capital do affect the cost of capital. One consequence is that companies need to compute a weighted average cost of capital (WACC) by weighting categories of capital proportionally.

A WACC is usually calculated using the following formula:

Where Ce is the cost of equity, Cd the cost of debt, E the market value of the firm's equity, D the market value of the firm's debt and Tc the corporate tax rate. The values of Ce and Cd are usually calculated using the following formulas derived from the Capital Asset Pricing Model (CAPM):

Where Rf is the riskfree rate, Se the default spread, Emp the equity market premium and ß the beta (that measure the market risk).

But in the case of emerging markets, a number of studies have shown that this model does't work, mainly because of: (1) the lack of historical data on equity markets, (2) deep market inefficiencies, (3) the different nature of risks ; and for (4) statistical properties of the time series (see Harvey (1995), Godfrey and Espinosa (1996), Erb, Harvey, and Viskanta (1995, 1996) and Diamonte, Liew, and Stevens (1996), Damodaran (1998) and Estrada (2000)).

 To enable companies to overcome these difficulties, TAC has investigated the topic from the theoritical background down to the operational aspects. This methodology uses the Country Ratings, the Crisis Signals and the political risk available in RiskMonitor to estimate an adjusted weighted average cost of capital on 50 emerging markets.

If you are interested or if you need more information, please contact Jocelyne Vaubourg at vau@tac-financial.com or click here to visit our dedicated website (www.waccportal.com).