### Unit 6: Applying the CAPM Model

This unit puts what you have learned from the previous units about cost of capital, net present value, and risk into one widely used model: The CAPM model. The CAPM model is used to compute a company's costs of capital that can be used in net present value calculations. It has been used in court cases for estimating a company's stock value as with the case of the breakup of AT&T in 1984 that resulted in seven companies. Also, the CAPM model is used in computing stock valuation. This unit will show how the financial manager uses this financial tool to value stock and to determine which stocks are the better options for investors, based on their rates of returns and how they compare to the overall stock market return.

**Completing this unit should take you approximately 2 hours.**

Upon successful completion of this unit, you will be able to:

- explain what the CAPM measures and its components;
- compute a company's expected rate of return using past stock data;
- apply the results from the CAPM model into net present value calculations; and
- recommend financial decisions based on a company's expected rate of return calculation.

### 6.1: Calculating the Cost of Capital using CAPM

This section discusses how to price risky securities in order to determine if an investment should be undertaken and describes how to determine the expected rate of return of an asset. After you read, you should understand the terms systematic risk, systematic risk and beta. By understanding the Capital Asset Pricing Model (CAPM), you will be able to determine if an investment will be worthwhile.

This section reviews the cost of capital. In addition to the Weighted Average Cost of Capital (WACC), it discusses flotation costs, cost of debt, cost of preferred stock, and cost of common stock.

### Unit 6 Assessment

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Take this assessment to see how well you understood this unit.

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