Introduction to Weighted Average Cost of Capital

The main objective of this paper is to provide an overview of weighted average cost of capital, that is, how it is computed and interpreted for any company. The weighted average cost of capital is an important aspect for any company to compute and interpret the rate of return that they earn for every dollar that they pay. Introduction to Weighted Average Cost of Capital The weighted average cost of capital is calculated in order to analyze the amount of cost that they will need to pay for the next dollar that the company borrows.

This is an important cost to consider even when considering or deciding between different projects to be undertaken. Every company is financed by either equity or debt. This means that the weighted average cost of capital would consist of all kinds of debt as well as all types of equity. There are two kinds of equity that are common in companies are preferred and common stock which must be weighed separately. The weighted average cost of capital is considered to be an average of the costs of debt and equity according to their proportions so that the company can understand how much of cost is being taken in and by which component.

The weighted average cost of capital shows a clear division of the weight that is allotted to debt and then to equity. “By taking a weighted average, we can see how much interest the company has to pay for every dollar it finances. ” (Investopedia, 2007 ) The weighted average cost of capital, as mentioned above, is also used for evaluating potential projects that can be taken up by the company. However, in order to evaluate the projects, there is a need for a discount rate that is used for finding the net present value of the cash flows that are expected to be received from the project.

The discount rate for the project is then evaluated from the weighted average cost of capital. “A firm’s WACC is the overall required return on the firm as a whole and, as such, it is often used internally by company directors to determine the economic feasibility of expansionary opportunities and mergers. ” (Investopedia, 2007 ) Calculating the Weighted Average Cost of Capital The weighted average cost of capital is simply calculated by the following formula provided:

WACC = wd (1-T) rd + we re Where wd and we are the weights that are allotted to the proportion of debt and equity respectively in the total capital structure of the company, (1-T) is the tax shield component that is saved from the net income of the company by deducting the interest before tax. This means that when interest to be paid on debt is deducted from operating income before tax, this causes the company to have less taxable income and hence, pay fewer taxes to the government.

rd and re are the costs of each debt and equity that are then multiplied with their individual and respective weights in order to give the exact WACC that is required for evaluating the projects and then making an appropriate decision. The reason why WACC is used as a discount factor is because when a new project is taken up, there is new financing that will be required and as mentioned before, the weighted average cost of capital provides a benchmark of the cost of borrowing one more dollar.

The weights of both equity and debt are calculated by using the market values and not the book values of the company. The market value of debt is not easily found and is considered to be the book value of the company at that time. However, there is a difference in the way the market value of equity is calculated. The market value of equity can be calculated by multiplying the price of the company’s share prevailing in the market with the number of shares that are outstanding. This would compute the financing that is received from equity.

The rate of return of both debt and equity can be calculated in a simple manner. For any debt, the rate of return or the cost that will be considered is the interest that is being paid on the outstanding amount. The cost of equity is calculated by the dividend discount model which is as follows: Kr = Dl / Pl + g Another observation that can be made for cost of capital is that “The cost of capital for any investment, whether for an entire company or for a project, is the rate of return capital providers would expect to receive if they would invest their capital elsewhere.

In other words, the cost of capital is an opportunity cost. ” (Value Based Management, 2007 )


1. Investopedia. (2007). Weighted Average Cost of Capital (WACC). Retrieved on January 4, 2008 from: http://www. investopedia. com/terms/w/wacc. asp 2. Value Based Management. (2007). WACC – Weighted Average Cost of Capital. Retrieved on January 5, 2008 from: http://www. valuebasedmanagement. net/methods_wacc. html

Calculate the price
Make an order in advance and get the best price
Pages (550 words)
*Price with a welcome 15% discount applied.
Pro tip: If you want to save more money and pay the lowest price, you need to set a more extended deadline.
We know how difficult it is to be a student these days. That's why our prices are one of the most affordable on the market, and there are no hidden fees.

Instead, we offer bonuses, discounts, and free services to make your experience outstanding.
How it works
Receive a 100% original paper that will pass Turnitin from a top essay writing service
step 1
Upload your instructions
Fill out the order form and provide paper details. You can even attach screenshots or add additional instructions later. If something is not clear or missing, the writer will contact you for clarification.
Pro service tips
How to get the most out of your experience with MyStudyWriters
One writer throughout the entire course
If you like the writer, you can hire them again. Just copy & paste their ID on the order form ("Preferred Writer's ID" field). This way, your vocabulary will be uniform, and the writer will be aware of your needs.
The same paper from different writers
You can order essay or any other work from two different writers to choose the best one or give another version to a friend. This can be done through the add-on "Same paper from another writer."
Copy of sources used by the writer
Our college essay writers work with ScienceDirect and other databases. They can send you articles or materials used in PDF or through screenshots. Just tick the "Copy of sources" field on the order form.
See why 20k+ students have chosen us as their sole writing assistance provider
Check out the latest reviews and opinions submitted by real customers worldwide and make an informed decision.
Business and administrative studies
excellent work
Customer 452773, March 12th, 2023
excellent work
Customer 452773, March 1st, 2024
Leadership Studies
awesome work as always
Customer 452773, August 19th, 2023
The support team was late responding , my paper was late because the support team didn't respond in a timely manner. The writer of the paper finally got it right but seems there was a problem getting the revisioin to me.
Customer 452773, April 7th, 2024
excellent job made a 93
Customer 452773, March 22nd, 2023
I just need some minor alterations. Thanks.
Customer 452547, February 10th, 2021
Leadership Studies
excellent job
Customer 452773, August 26th, 2023
Social Work and Human Services
Great work I would love to continue working with this writer thought out the 11 week course.
Customer 452667, May 30th, 2021
Criminal Justice
The paper was not accused of plagiarism and was written very well. I will let you know the grade once it is graded. Thank you
Customer 452671, April 26th, 2021
Business and administrative studies
excellent, got a 100
Customer 452773, May 17th, 2023
Human Resources Management (HRM)
excellent job
Customer 452773, July 17th, 2023
Business and administrative studies
Excellent job
Customer 452773, March 17th, 2023
Customer reviews in total
Current satisfaction rate
3 pages
Average paper length
Customers referred by a friend
15% OFF your first order
Use a coupon FIRST15 and enjoy expert help with any task at the most affordable price.
Claim my 15% OFF Order in Chat

Sometimes it is hard to do all the work on your own

Let us help you get a good grade on your paper. Get professional help and free up your time for more important courses. Let us handle your;

  • Dissertations and Thesis
  • Essays
  • All Assignments

  • Research papers
  • Terms Papers
  • Online Classes
Live ChatWhatsApp