Weighted Average Cost Calculator (WACC)
Calculate your firm's blended cost of capital efficiently
Total market value of all outstanding shares ($).
Please enter a valid positive number.
Total market value of all outstanding debt ($).
Please enter a valid positive number.
Expected rate of return demanded by shareholders (%).
Please enter a valid percentage (0-100).
Effective interest rate paid on debt (%).
Please enter a valid percentage (0-100).
Corporate tax rate used to calculate the tax shield (%).
Please enter a valid percentage (0-100).
Weighted Average Cost of Capital (WACC)
8.06%
Formula: (E/V × Ke) + (D/V × Kd × (1 – t))
Total Capital Value (V)
$7,000,000
Equity Weight (E/V)
71.43%
Debt Weight (D/V)
28.57%
After-Tax Cost of Debt
3.95%
| Component | Value ($) | Weight (%) | Cost (%) | Weighted Cost (%) |
|---|
Figure 1: Capital Structure Weight Distribution
What is how to calculate weighted average cost?
When financial professionals ask how to calculate weighted average cost in a corporate finance context, they are almost exclusively referring to the Weighted Average Cost of Capital (WACC). This metric represents the average rate of return a company is expected to pay to all its security holders to finance its assets.
The calculation is critical for decision-making because it dictates the minimum return a company must earn on its existing asset base to satisfy its creditors, owners, and other capital providers. It serves as the hurdle rate for investment decisions; if a new project's return is lower than the weighted average cost, the project typically destroys value.
Common Misconception: Many assume simple averaging works (e.g., adding cost of equity and debt and dividing by two). This is incorrect because companies rarely hold equal amounts of debt and equity. A true weighted average must account for the proportion of each capital source.
How to Calculate Weighted Average Cost Formula
The mathematical foundation for how to calculate weighted average cost relies on summing the products of the cost of each capital component multiplied by its proportional weight.
The WACC Formula:
WACC = (E/V × Re) + (D/V × Rd × (1 - T))
| Variable | Meaning | Unit | Typical Range |
|---|---|---|---|
| E | Market Value of Equity | Currency ($) | > 0 |
| D | Market Value of Debt | Currency ($) | ≥ 0 |
| V | Total Value (E + D) | Currency ($) | Sum of E & D |
| Re (Ke) | Cost of Equity | Percentage (%) | 8% – 15% |
| Rd (Kd) | Cost of Debt | Percentage (%) | 3% – 10% |
| T | Corporate Tax Rate | Percentage (%) | 15% – 30% |
Practical Examples (Real-World Use Cases)
Example 1: The Mature Manufacturer
Consider "SteelWorks Corp," a stable manufacturing firm. They have significant debt due to machinery purchases.
- Equity: $10,000,000
- Debt: $5,000,000
- Cost of Equity: 10%
- Cost of Debt: 6%
- Tax Rate: 25%
Total Capital = $15M. Equity weight is 67%, Debt weight is 33%.
Weighted Equity = 0.67 × 10% = 6.7%
Weighted Debt (After Tax) = 0.33 × 6% × (1 – 0.25) = 1.485%
WACC = 8.185%. SteelWorks needs to earn at least 8.19% on new factories to be profitable.
Example 2: The Tech Startup
Consider "CloudApp," a high-growth tech startup. They rely mostly on venture capital (equity) and have very little debt.
- Equity: $2,000,000
- Debt: $100,000
- Cost of Equity: 18% (Higher risk)
- Cost of Debt: 8%
- Tax Rate: 21%
Because Debt is negligible, the weighted average cost is driven almost entirely by the Cost of Equity. The result would be slightly under 18%. This shows how capital structure drastically changes the result when learning how to calculate weighted average cost.
How to Use This WACC Calculator
- Enter Market Values: Input the current market value of equity (market cap) and debt. Do not use book values if possible, as market values reflect real-time costs.
- Input Rates: Enter your Cost of Equity (often calculated via CAPM) and Cost of Debt (interest rate).
- Adjust Tax: Enter your effective corporate tax rate. This allows the calculator to compute the "tax shield" benefit of debt.
- Analyze Results: The tool will output the specific percentage. Use the chart to visualize if you are leveraging enough debt to lower your overall cost, or if equity is dominating your capital structure.
Key Factors That Affect How to Calculate Weighted Average Cost
Several macroeconomic and company-specific factors influence the final WACC figure:
- Interest Rates: As central banks raise rates, the Cost of Debt (Rd) increases directly. This also often increases the risk-free rate used to determine Cost of Equity, driving the entire weighted average up.
- Risk Profile (Beta): Higher volatility in stock price increases the company's Beta. A higher Beta raises the Cost of Equity, as investors demand higher returns for the added risk.
- Time Horizon: Long-term debt usually carries higher interest rates than short-term debt, affecting the cost of the debt component.
- Taxes: Interest payments on debt are generally tax-deductible. A higher tax rate actually lowers the WACC because the government effectively subsidizes the debt payments (Tax Shield).
- Cash Flow Stability: Companies with stable cash flows can support more debt (which is usually cheaper than equity), potentially lowering their overall WACC.
- Inflation: Inflation increases the required return for both bondholders and shareholders, universally increasing the weighted average cost.
Frequently Asked Questions (FAQ)
Why is Cost of Debt multiplied by (1 – Tax Rate)?
Interest expenses reduce taxable income, saving the company money on taxes. This "tax shield" means the effective cost of debt is lower than the nominal interest rate.
Should WACC always be minimized?
Generally, yes. A lower WACC maximizes firm value. However, minimizing it by taking on excessive debt increases bankruptcy risk, which can eventually spike the cost of debt and equity, reversing the benefit.
Can I use Book Value instead of Market Value?
For academic purposes, maybe. For professional financial analysis, always use Market Value. Investors demand returns based on the current market price of securities, not historical accounting figures.
What is a "Good" Weighted Average Cost?
It depends on the industry. Utilities might have a WACC of 4-6%, while biotech startups might have 15-20%. Compare your result against industry peers.
How does this differ from Inventory Weighted Average Cost?
While the keyword "how to calculate weighted average cost" can apply to inventory (Total Cost / Total Units), in finance it strictly refers to capital. This calculator focuses on Capital (WACC).
Does inflation impact WACC?
Yes. Investors require a return that beats inflation. High inflation raises both Cost of Equity and Cost of Debt.
What if a company has Preferred Stock?
Preferred stock is a third component. You would add a term: (P/V * Rp) to the formula. For simplicity, this calculator focuses on the two primary drivers: Common Equity and Debt.
How often should I recalculate WACC?
You should recalculate whenever there is a significant change in interest rates, your stock price (market cap), or your debt levels.
Related Tools and Internal Resources
- Return on Investment (ROI) Calculator – Analyze the profitability of specific projects.
- Capital Asset Pricing Model (CAPM) Guide – Learn how to derive the Cost of Equity input used here.
- Debt-to-Equity Ratio Analyzer – Understand the risks of high leverage.
- Inventory Weighted Average Cost – Calculating unit costs for accounting.
- Net Present Value (NPV) Tool – Use your WACC result as the discount rate here.
- Dividend Yield Calculator – Understand cash returns to shareholders.