Determining the current cost of capital

The cost of capital is calculated as the weighted average of the required rates of return on equity and debt. The cost of equity is determined using the Capital Asset Pricing Model (CAPM).

This uses the yield on long-term risk-free Bunds, increased by the risk premium attaching to investments in the equity market. The general risk premium, which reflects the general risk of a capital investment in the equity market and focuses on the DAX, was reduced from 6% to 5% for 2008 to reflect the changes in German tax law. Allowance is made for the individual risk to which Volkswagen’s shares are exposed using a beta factor that reflects the fluctuations in the price of Volkswagen shares in comparison with the equity market (DAX). As Volkswagen shares experienced considerable price fluctuations in 2008, leading to extreme beta factors in individual months, a multi-year average figure of 0.89 was used for the first time to determine the current beta factor for 2008 as a whole.

The cost of debt is based on the average yield for long-term debt. As borrowing costs are tax-deductible, the cost of debt is also adjusted to account for the current tax rate of 30%.

A weighting on the basis of a fixed ratio for the fair values of equity and debt gives an effective cost of capital for the Automotive Division of 7.2% (7.6%) for 2008.

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COST OF CAPITAL AFTER TAX AUTOMOTIVE DIVISION

 

 

%

 

2008

 

2007

Risk-free rate

 

4.1

 

4.3

DAX market risk premium

 

5.0

 

6.0

Volkswagen-specific risk premium

 

–0.6

 

–0.7

(Volkswagen beta factor)

 

(0.89)

 

(0.88)

Cost of equity after tax

 

8.5

 

9.6

Cost of debt

 

6.7

 

5.5

Tax

 

–2.0

 

–1.9

Cost of debt after tax

 

4.7

 

3.6

Proportion of equity

 

66.7

 

66.7

Proportion of debt

 

33.3

 

33.3

Cost of capital after tax

 

7.2

 

7.6

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