COST OF CAPITAL

MANUAL OF FINANCIAL CONCEPTS

COST OF CAPITAL

The cost of capital, or more specifically, the weighted average cost of capital (WACC), is the addition of the weighted cost of third party sources of financing plus the weighted cost of own sources of financing.

wacc = [ Cost TF * (1-t) * (TF / (TF+OF)) ] + [ Cost OF * (OF / (TF+OF)) ]

Whereas:

TF: Third party sources of financing.
OF: Own sources of financing.
TF / (TF+OF): Proportion of third party financing in relation to total sources of financing.
OF / (TF+OF): Proportion of own financing in relation to total sources of financing.
Cost TF * (1-t): Cost of third party financing after taxes.
t: Income tax rate.
Cost OF: Cost of own sources of financing.

Example of wacc calculation:

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