Economics and Rural Development, Volume 8, Number 2

Cost of Equity Capital in Agricultural Organizations: Theoretical Approach and Empirical Analysis

Vilija Aleknevičienė
Aleksandras Stulginskis University

Abstract

The paper presents the methodology for estimation of the cost of equity capital in agricultural organizations. This methodology consists of two methods: modified CAPM and long-term ROE. The organizations in this sector of industry – family farms and agri-cultural companies – are family controlled or closely held. Being undiversified investors the owners of such organizations assume to-tal risk, not only systematic one. Considering the undiversification of investors, systematic risk is replaced by total risk in CAPM, and accounting information is used instead of market information. OMXBB index is chosen as a market portfolio. As it is dangerous to rely on one method, long-term ROE is applied as additional method. The cost of equity capital is calculated in all Lithuanian agri-cultural organizations, in family farms and in agricultural companies. The research results show that modified CAPM is applicable for estimation of cost of equity capital in agricultural companies, but there are some problems with the application of modified CAPM in family farms.

Keyword(s): cost of equity capital, CAPM, long-term ROE, agricultural organizations


References

Adams A.F., Manners G.E., Astrashan J.H., Mazzola P. (2004). The Importance of Integrated Goal Setting: The Ap-plication of Cost-of-Capital Concepts to Private Firms. Family Business Review, Vol. 17, No 4, pp. 287–302.

Almisher A.M., Kish R.J. (2000). Accounting Betas – An Ex Anti Proxy for Risk within the IPO Market. Journal of Financial and Strategic Decisions. Fall, Volume 13, Number 3, pp. 23–34.

Anderson R.C., Byers S.S., Groth J.C. (2000). The Cost of Capital for Projects: Conceptual and Practical Issues. Man-agement decisions, 38/6, pp. 384–393.

Bodnar G. M., Dumas B., Marston R. C. (2003). Cross-border Valuation: the International Cost of Equity Capital. NBER Working Paper 10115.

Bruner R. F., Li W., Kritzman M., Myrgren S., Page S. (2008). Market Integration in Developed and Emerging Markets: Evidence from the CAPM. Emerging Markets Re-view, 9, pp. 89–103.

Claus J., Thomas J. (2001). Equity Premia as Low as Three Percent? Empirical Evidence from Analysts’ Earnings Forecasts for Domestic and International Stock markets. Journal of Finance, 56, pp. 1629–1666.

Cohen R., Polk C., Vuolteenaho D. J. (2009). The Price is (Almost) Right. The Journal of Finance, 64 (6), pp. 2739–2782.

Collins D., Huang H. (2011). Management Entrenchment and the Cost of Equity Capital. Journal of Business Re-search, 64, pp. 356–362.

Cotner J., Fletcher H. (2000). Computing the Cost of Capi-tal for Privately Held Firms. American Business Review, Vol. 18, No. 2, pp. 27–33.

Damodaran A. (2002). Investment Valuation: Tools and Techniques for Determining the Value of Any Asset. 2 nd ed. John Willy and Sons, Inc., New York, pp. 928–968.

Dhaliwal D., Krull L., Li O.Z. (2007). Did the 2003 Tax Act Reduce the Cost of Equity Capital? Journal of Accounting and Economics, 43, pp. 121–150.

Easton P. D. (2004). PE Ratios, PEG Ratios and Estimating the Implied Expected Rate of Return on Equity Capital. The Accounting Review, 79, pp. 73–95.

Garvey G. T. (2001). What is Reasonable Rate for an Undi-versified Investor? Available at: http://ssrn.com/abstract=281432

Gebhardt L., Lee C., Swaminathan B. (2001). Toward an Implied Cost of Capital. Journal of Accounting Research, 39, pp. 135–176.

Gode D., Mohanram P. (2003). Inferring the Cost of Capital Using the Ohlson-Juettner Model. Review of Accounting Studies, 8, pp. 399–431.

Ismail B., Kim M. (1989). On the Association of Cash Flow Variables with Market Risk: Further Evidence. Accounting Review, January, pp. 125–136.

Kerins F.; Smith R. L.; Smith J. K. (2004). Opportunity Cost of Capital for Venture Capital Investors and Entrepre-neurs. Journal of Finance and Quantitative Analysis, 39 (2), pp. 385–405.

McConaughy D. L., Covrig V. (2007). Owner’s Lack of Di-versification and the Cost of Equity Capital for a Closely Held Firm. Business Valuation Review, 26.4, pp. 115–120.

McConaughy D. L. (2009). The Cost of Capital for the Closely-held, Family-Controlled Firm. USASBE Proceed-ings, pp. 1–13.

Mishra D., O’Brien T. (2005). Risk and Ex Ante Cost of Equity Estimates of Emerging Market Firms. Emerging Markets Review, 6, pp. 107–120.

Moon G., Leblanc L. A. (2008). The Risk Adjustment of Re-quired Rate of Return for Supply Chain Infrastructure In-vestments. Transportation Journal, Vol. 47, Issue 1, pp. 5–16.

Muller E. (2011). Returns to Private Equity: Idiosyncratic Risk Does Matter! Review of Finance, 15 (3), pp. 545–574.

Nekrasov A., Shroff P.K. (2009). Fundamentals-based Risk Measurement in Valuation. The Accounting Review, 84 (6), pp. 1983–2011.

Pattitoni P.; Petracci B.; Poti V.; Spisni M. 2012. Cost of Entrepreneurial Capital and Under-diversification: A Euro-Mediterranean Perspective. Research in International Busi-ness and Finance, 27, pp. 12–27.

Available at: http://www.sciencedirect.com/science/article/pii/S0275531912000219

Plenborg T. (2002). Firm Valuation: Comparing the Residu-al Income and Discounted Cash Flow Approaches. Scandi-navian Journal of Management, 18, pp. 303–318.

Pope P.F. (2010). Bridging the Gap between Accounting and Finance. The British Accounting Review, 42, pp. 88–102.

Statman M. (1987). How Many Stocks Make a Diversified Portfolio? Journal of Financial and Quantitative Analysis, Vol. 22, No 3, pp. 353–363.


Full Text: PDF

Refbacks

  • There are currently no refbacks.


Economics and Rural Development ISSN 1822-3346 / eISSN 2345-0347

This journal is published under the terms of the Creative Commons Attribution-Noncommercial 3.0 Unported License. Responsible editors: Prof. Dr Vilija Alekneviciene, Dr Gunita Mazure.