Mismatching cashflows & discount rates
Why would discounting cashflow-to-equity using WACC lead to an upwardly biased estimate of value of equity. Vice versa, why would discounting cashflow-to-firm using cost of equity yield a downward biased estimate of value of the firm?My thinking is, WACC is higher than cost of equity because it includes the cost of debt: WACC = cost of equity + cost of debt. So if we discount using WACC, it will lead to a downwards estimate. Vice versaWhat did i get wrong here? Help?
For reference, Aswath says its the '1st principle of valuation' 10:20
WACC is lower, not higher, than cost of equity because debt is cheaper than equity
Agree with above poster. In your thinking, you're adding the two, but its the weighted average (like in the name!).
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