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Capital & valuation
Cost of capital
The blended rate the business pays for its money: the cost of debt (after tax) and the cost of equity, weighted by how much of each funds the business. The hurdle a project must clear.
Owned by: Manager / DirectorTest band: Manager / Director
The formula
WACC = E/(D+E) × Cost of equity + D/(D+E) × Cost of debt × (1 − Tax rate)
In practice
Equity is the expensive money, even though it has no interest bill. A small private business's cost of equity is often 20% or more.
The kind of thing the test asks
- A business is 40% debt at 8% (tax rate 25%) and 60% equity at 18%. Its WACC is…
- A small private business's cost of equity is usually…