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Will the deflated WACC please stand up? And the real WACC should sit down

Author

Listed:
  • Joseph Tham
  • Ignacio Velez Pareja

Abstract

In a world with taxes, there is a small discrepancy between the deflated WACC WACCDef and the real wacc. This is due to the (1-T) term that is in the standard expression for the WACC applied to the Free Cash Flow (FCF). We compare different approaches for valuing nominal and real cash flows with the 1) nominal Weighted Average Cost of Capital, WACC, 2) real WACC, wacc, 3) inflated WACC, WACCInf and 4) deflated WACC, WACCDef. The cash flows are derived from financial statements that have been constructed in nominal prices. For consistency in valuation, we must use the deflated WACC rather than the real WACC to discount real cash flows, and the nominal WACC to discount nominal cash flows.

Suggested Citation

  • Joseph Tham & Ignacio Velez Pareja, 2010. "Will the deflated WACC please stand up? And the real WACC should sit down," Proyecciones Financieras y Valoración 7072, Master Consultores.
    • Handle: RePEc:col:000463:007072
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    More about this item

    Keywords

    Weighted average cost of capital; WACC; firm valuation; capital budgeting; deflated WACC; real WACC; inflation;
    All these keywords.

    JEL classification:

    • D61 - Microeconomics - - Welfare Economics - - - Allocative Efficiency; Cost-Benefit Analysis
    • G31 - Financial Economics - - Corporate Finance and Governance - - - Capital Budgeting; Fixed Investment and Inventory Studies
    • H43 - Public Economics - - Publicly Provided Goods - - - Project Evaluation; Social Discount Rate

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