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The weighted average cost of capital (WACC)

2.2 The Capital Asset Pricing Model (CAPM)

The CAPM enables us to calculate the required return from an
investment given the level of risk associated with the investment
(measured by its beta factor).

Before showing how the CAPM formula can be used to derive k e, we
first need to introduce the model and explain the terminology
surrounding it.

In order to explain how the CAPM works, it is first necessary to
introduce the concepts of systematic and unsystematic risk.

2 types of risk

Systematic risk Unsystematic risk

Caused by general, macro- Caused by factors specific to
economic factors the company or industry
(e.g. recession, interest rates, (e.g. systems failure, R+D
exchange rates) success. strikes)

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