Company Valuation as Result of Risk Analysis: Replication Approach as an Alternative to the CAPM

Abstract

Market imperfections call into question the suitability of the CAPM for deriving the cost of capital. The valuation by incomplete replication introduces a valuation concept that takes capital market imperfections into account and derives the risk-adjusted cost of capital (or risk discounts) on the basis of corporate or investment planning and risk analysis. The risk measure is derived consistently (using risk analysis and Monte Carlo simulation) from the cash flows to be valued, that is, the earning risk. Historical stock returns of the valuation object are therefore not necessary. It can be shown that the valuation result of the CAPM can be derived using the approach of imperfect replication as a special case for perfect capital markets.