Weighted Average Cost of Capital

Question 1

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Answer 1

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Question 2

what is WACC?

Answer 2

WACC is the way to calculate the cost of capital for a company. It takes into account cost of debt, cost of preferred shares & cost of equity. WACC tells you the minimum amount company needs to return!What percentage of the capital is debt & what percentage is equity? The weighted average cost of capital is the rate that a company is expected to pay on average to all its security holders to finance its assets.Although this formula looks long, once you break it down it’s quite intuitiveWAAC= WdRd(1-t)+Wp Rp + We Re30%4%(0.75) + 0 + 70%10% = 7.9% Wacc Rate.

Question 3

Why cost of equity is higher than the cost of bond?

Answer 3

based on risk and reward: equity holders bear more risk than bond holders.

Question 4

If the company chooses an investment (17%) that is more than the WACC (7.9%), what dies that mean?

Answer 4

That means every dollar the company invests in the project, 10 cents in wealth will be created for the company.this would mean that company should make investments that give a higher return than 7.9%, in order to grow.

Question 5

How can you use WACC?

Answer 5

You can use this number to discount expected cash flows to see what they are they worth today; 1000000 mil dollars in two years worth today only 858,929 @7.9%.