Calculate Cost of Capital Formula

WACC Formula:

\[ \text{Cost of Capital} = \left(\frac{E}{V} \times R_e\right) + \left(\frac{D}{V} \times R_d \times (1 - T_c)\right) \]

Equity (E):

USD

Total Value (V):

USD

Cost of Equity (Re):

decimal

Debt (D):

USD

Cost of Debt (Rd):

decimal

Tax Rate (Tc):

decimal

Cost of Capital (WACC):

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1. What is the Cost of Capital Formula?

The Weighted Average Cost of Capital (WACC) represents a firm's average cost of capital from all sources, including equity and debt. It's used as a hurdle rate for investment decisions and company valuation.

2. How Does the Calculator Work?

The calculator uses the WACC formula:

\[ \text{WACC} = \left(\frac{E}{V} \times R_e\right) + \left(\frac{D}{V} \times R_d \times (1 - T_c)\right) \]

Where:

\( E \) — Market value of equity (USD)
\( V \) — Total market value of financing (E + D)
\( R_e \) — Cost of equity (decimal)
\( D \) — Market value of debt (USD)
\( R_d \) — Cost of debt (decimal)
\( T_c \) — Corporate tax rate (decimal)

Explanation: The formula weights the cost of each capital component by its proportional value in the company's capital structure.

3. Importance of WACC Calculation

Details: WACC is crucial for capital budgeting decisions, company valuation (DCF analysis), and performance evaluation. It represents the minimum return a company must earn to satisfy all its investors.

4. Using the Calculator

Tips: Enter all values in USD for monetary amounts and as decimals for rates (e.g., 0.08 for 8%). Ensure total value (V) equals the sum of equity (E) and debt (D).

5. Frequently Asked Questions (FAQ)

Q1: Why do we multiply debt cost by (1 - Tc)?
A: Because interest payments are tax-deductible, creating a tax shield that reduces the effective cost of debt.

Q2: How to estimate cost of equity (Re)?
A: Typically calculated using CAPM: Re = Rf + β(Rm - Rf), where Rf is risk-free rate, β is beta, and Rm is market return.

Q3: What's a good WACC?
A: Varies by industry. Lower WACC generally better, but should be compared to industry averages and ROIC.

Q4: Should we use book or market values?
A: Market values are preferred as they reflect current costs of capital.

Q5: How often should WACC be recalculated?
A: At least annually, or whenever capital structure, market conditions, or risk profile change significantly.