WACC
Weighted Average Cost of Capital — the average rate a company is expected to pay to finance its assets, weighted by the proportion of debt and equity in its capital structure.
Example
“A WACC of 9% means the company must earn at least 9% on investments to satisfy both debt and equity holders.”
Memory Tip
WACC = blended cost of debt and equity. The minimum return needed to create value.
Why It Matters
WACC helps you understand the true cost of financing any major purchase or business venture by showing what you would pay on average for borrowed money and invested capital. This matters because it sets a benchmark for whether an investment is worthwhile - you should only invest in projects that return more than your WACC.
Common Misconception
Many people think WACC is simply the interest rate on a loan, but it actually blends both debt costs and equity costs together based on your capital structure. It accounts for the fact that different sources of money have different price tags and different risk levels.
In Practice
Imagine a company with 60 percent debt costing 5 percent annually and 40 percent equity costing 12 percent annually. The WACC would be (0.60 times 0.05) plus (0.40 times 0.12), which equals 0.03 plus 0.048, or 7.8 percent. This 7.8 percent becomes the minimum return the company needs on its investments to satisfy both lenders and shareholders.
Etymology
Acronym for Weighted Average Cost of Capital. The WEIGHTED AVERAGE of all CAPITAL COSTS.
Common Misspellings
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Related Terms
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See Also
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