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Weighted Average Cost of Capital - WACC

WACC, or weighted average cost of capital, is a calculation of a firm's cost of capital that takes into account the relative costs of all capital sources including debt, preferred stock, common stock, and other long-term debt weighted by their proportional use. The WACC represents the minimum rate of return a company must earn on existing assets to create value for shareholders. A higher WACC means a company is less likely to create value and there is higher risk.

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151 views

Weighted Average Cost of Capital - WACC

WACC, or weighted average cost of capital, is a calculation of a firm's cost of capital that takes into account the relative costs of all capital sources including debt, preferred stock, common stock, and other long-term debt weighted by their proportional use. The WACC represents the minimum rate of return a company must earn on existing assets to create value for shareholders. A higher WACC means a company is less likely to create value and there is higher risk.

Uploaded by

Anuraag Sharma
Copyright
© Attribution Non-Commercial (BY-NC)
We take content rights seriously. If you suspect this is your content, claim it here.
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'Weighted Average Cost of Capital - WACC'

WACC
WACC Weighted Average cost of Capital raised (i.e. Relative cost of debt and equity raised)

The Higher the WACC the less likely it is , that the company is creating value.

WACC : An Investment Tool


Investors use WACC as a tool to decide whether to invest. WACC represents the minimum rate of return at which a company produces value for its investors

A calculation of a firm's cost of capital in which each category of capital is proportionately weighted. All capital sources - common stock, preferred stock, bonds and any other long-term debt are included in a WACC calculation. All else equal, the WACC of a firm increases as the beta and rate of return on equity increases, as an increase in WACC notes a decrease in valuation and a higher risk.

Calculating WACC
The WACC equation is the cost of each capital component multiplied by its proportional weight and then summing: Where: Re = cost of equity Rd = cost of debt E = market value of the firm's equity D = market value of the firm's debt V=E+D E/V = percentage of financing that is equity D/V = percentage of financing that is debt Tc = corporate tax rate Businesses often discount cash flows at WACC to determine the Net Present Value (NPV) of a project, using the formula: NPV = Present Value (PV) of the Cash Flows discounted at WACC.

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