Incorporating CAPM into Capital Structure Theories: Accounting for Business and Financial Risks

   In order to create a methodology for assessing the company’s main financial indicators, taking into account both business and financial risks, the CAPM and Fama-French models were included in the two main theories of capital structure - the Brusov-Filatova-Orekhova (BFO) theory and the Modigliani-Miller (MM) theory. CAPM takes into account systematic (business) risk, while capital structure theories take into account the financial risk of a specific company, associated with debt financing. As a result, generalized approaches (CAPM-BFO and CAPM–MM) were developed that take into account both types of risk: systematic (business) and financial. The Fama-French model with three and five factors is also considered and included. The latest versions of the two main theories of capital structure (BFO and MM), adapted to the established financial practice of the functioning of companies, are used, taking into account the real conditions of their work, such as variable income, frequent income tax payments, advance income tax payments, etc. Practical calculations have been made. They focus on (1) applying two versions of CAPM (market or industry) to real companies; (2) application to real companies of a new methodology developed by us for assessing the financial performance of a company, taking into account both business (market or industry) and financial risks. The calculations made for three real companies (Apple, Severstal, Polymetal) show that the financial performance of companies is highly dependent on the type of risks taken into account. Sometimes the difference between market and industry cases is small, sometimes it is significant. But the difference in financial indicators, while taking into account simultaneously financial and business risks, is always great. This means that taking into account simultaneously both financial and business risks is important for a correct assessment of the financial performance of companies. The developed approach makes it possible to use the powerful tools of these highly developed theories (BFO and MM) for the correct assessment of the main financial indicators of the company and their forecasting, taking into account both types of risks.

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