Weighted Average Cost of Capital

Method used to help a company calculate the cost of raising money. The calculation involves multiplying the cost of each element of capital such as debt – loans, bonds – and equity – common, preferred stock – by its percentage of the total capital and then adding them together. The final figure, the Weighted Average Cost of Capital or WACC, is a rough guide to the rate of interest per monetary unit of capital.

For example, if a company raises capital with £5 million of stock with an expected rate of return of 10% and £15 million of debt through a bond issue with a coupon of 5% the WACC is as follows: equity (£5 million) divided by total capital (£20 million) = 25% multiplied by cost of equity (10%) = 2.5% debt (£15 million) divided by total capital (£20 million) = 75% multiplied by cost of debt (5%) = 3.75% The two results added together give a WACC of 6.25%.