Month End Glossary

Weighted Average Cost of Capital (WACC)

The Weighted Average Cost of Capital (WACC) is a financial metric that determines a company's cost of capital from all sources, adjusted by their proportionate weight.

The Weighted Average Cost of Capital (WACC) is an important financial metric used by companies to evaluate how much it costs them to finance their operations and investments from both equity and debt. It takes into account the cost of equity (such as dividends or required returns by investors) and the cost of debt (such as interest on loans or bonds), and adjusts these costs by their proportionate share in the company's capital structure.

For example, if a company is half financed by equity with a cost of 8% and half by debt with a cost of 5%, its WACC would be 6.5%. Businesses use WACC in discounting future cash flows to determine the net present value (NPV) of potential projects or investments. A high WACC indicates costlier financing, while a lower WACC suggests more economical financing options.

Understanding and optimizing the WACC can help companies make efficient investment decisions, such as expansion, hiring, or research initiatives. It is a vital tool in financial modeling and corporate valuation.

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