WACC: Definition, misconceptions and errors
AbstractThe WACC is just the rate at which the Free Cash Flows must be discounted to obtain the same result as in the valuation using Equity Cash Flows discounted at the required return to equity (Ke) The WACC is neither a cost nor a required return: it is a weighted average of a cost and a required return. To refer to the WACC as the "cost of capital" may be misleading because it is not a cost. The paper includes 7 errors due to not remembering the definition of WACC and shows the relationship between the WACC and the value of the tax shields (VTS).
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Bibliographic InfoPaper provided by IESE Business School in its series IESE Research Papers with number D/914.
Length: 27 pages
Date of creation: 01 Mar 2011
Date of revision:
required return to equity; value of tax shields; company valuation; cost of debt;
Find related papers by JEL classification:
- G12 - Financial Economics - - General Financial Markets - - - Asset Pricing; Trading Volume; Bond Interest Rates
- G31 - Financial Economics - - Corporate Finance and Governance - - - Capital Budgeting; Fixed Investment and Inventory Studies
- M21 - Business Administration and Business Economics; Marketing; Accounting - - Business Economics - - - Business Economics
This paper has been announced in the following NEP Reports:
- NEP-ACC-2011-04-09 (Accounting & Auditing)
- NEP-ALL-2011-04-09 (All new papers)
- NEP-CFN-2011-04-09 (Corporate Finance)
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