Companies typically evaluate the returns expected from newinvestments against a “hurdle rate” or benchmark. Investments thatearn returns in excess of the hurdle rate are expected to createvalue for shareholders and vice versa. Most companies set hurdlerates based on an analysis of their weighted average cost ofcapital (WACC). When considering investments outside their homecountry, they normally increase the hurdle rate to account for theadditional perceived risks and volatilities associated with theopportunities.

Our capital markets research shows that in faster growingemerging economies such as Brazil, India and China, investors tendto demand lower returns on capital, not higher. We measured the“required return” by quantifying the median cash-on-cash return oncapital delivered by companies valued at an enterprise value thatis equal to the gross book value, which we call the Zero NPV (netpresent value) point. This relationship on average reveals thelevel of required return set by investors as the minimum requiredto create value.

Using the above relationship, investors appear to be moresatisfied with lower levels of current return than a traditionalWACC analysis would suggest. The fast growth in emerging marketsseems to augment the perception of future value in the minds ofinvestors relative to more mature, low-growth markets.

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