Weighted Average Cost of Capital (WACC)

Written by True Tamplin, BSc, CEPF® | Reviewed by Editorial Team

Updated on December 14, 2022

Weighted Average Cost of Capital (WACC) Definition

The weighted average cost of capital (WACC) is the implied interest rate of all forms of the company’s debt and equity financing which is weighted according to the proportionate dollar-value of each.

The formula for calculating the weighted average cost of capital is the proportion of total equity (E) to total financing (E + D) multiplied by the cost of equity (Re) , plus the proportion of total debt (D) to total financing (E + D), multiplied by the cost of debt (Rd), multiplied by one minus the tax rate (T).<h2>Formula for WACC in Simple Terms</h2> The total cost of debt is typically the stated interest rate, minus the tax benefit derived from interest payments being deductible.

Because equity has no stated cost, the formula often uses the Capital Asset Pricing Model, where the cost of equity is estimated to be the return that investors expect to receive from their investment.

The Purpose of WACC

WACC is also used by company management to evaluate decisions such as capital projects, mergers and acquisitions, and other large-cost transactions in order to ensure that their WACC and Capital Structure are within investor expectations.

If a company determines that they have a WACC which is too high, they can mitigate this by renegotiating debt or authorizing a share buy-back to reduce the proportion of equity to total financing.

Making Decisions with WACC

WACC is also used by company management to evaluate decisions such as capital projects, mergers and acquisitions, and other large-cost transactions in order to ensure that their WACC and Capital Structure are within investor expectations.

If a company determines that they have a WACC which is too high, they can mitigate this by renegotiating debt or authorizing a share buy-back to reduce the proportion of equity to total financing.

What is WACC (Weighted Average Cost of Capital) FAQs

What does WACC stand for?

WACC stands for the Weighted Average Cost of Capital.

What is the WACC?

The weighted average cost of capital (WACC) is the implied interest rate of all forms of the company’s debt and equity financing which is weighted according to the proportionate dollar-value of each.

How is the WACC calculated?

The total cost of debt is typically the stated interest rate, minus the tax benefit derived from interest payments being deductible.

What is the purpose of the WACC?

WACC is also used by company management to evaluate decisions such as capital projects, mergers and acquisitions, and other large-cost transactions in order to ensure that their WACC and capital structure are within investor expectations.

How can a company lower a WACC that is too high?

If a company determines that they have a WACC which is too high, they can mitigate this by renegotiating debt or authorizing a share buy-back to reduce the proportion of equity to total financing.

About the Author

True Tamplin, BSc, CEPF®

True Tamplin is a published author, public speaker, CEO of UpDigital, and founder of Finance Strategists.

True is a Certified Educator in Personal Finance (CEPF®), author of The Handy Financial Ratios Guide, a member of the Society for Advancing Business Editing and Writing, contributes to his financial education site, Finance Strategists, and has spoken to various financial communities such as the CFA Institute, as well as university students like his Alma mater, Biola University, where he received a bachelor of science in business and data analytics.

To learn more about True, visit his personal website, view his author profile on Amazon, or check out his speaker profile on the CFA Institute website.

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