Hope, fear and wonder as a new market opens
Credit bash crowds out Crillon
An oft-cited reason why the European corporate bond market will continue to grow is that the pressure to provide shareholder value will force European companies to leverage up at a time when banks, facing the exact same shareholder pressure, are less keen to lend. At a conference in July, Paul Gibbs, head of mergers and acquisitions research at JP Morgan, attempted to apply scientific analysis to this much-touted link between increased leverage and shareholder value.
Gibbs set out a new way of analyzing a company's weighted average cost of capital. That is the weighted cost of its debt and equity. It is intuitive that the more debt a company has, the lower its cost of capital, because equity investors demand a risk premium over debt providers. The lower that weighted average cost of capital, the lower the discount rate markets will use to value a company's expected free cashflow and the higher the appropriate value - and therefore share price - the market will place on a company.
That raises the contentious question of how to measure the cost of equity.