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WACC: Definition, misconceptions and errors


  • Fernandez, Pablo

    () (IESE Business School)


The 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).

Suggested Citation

  • Fernandez, Pablo, 2011. "WACC: Definition, misconceptions and errors," IESE Research Papers D/914, IESE Business School.
  • Handle: RePEc:ebg:iesewp:d-0914

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    References listed on IDEAS

    1. David M. Newbery, 2002. "Privatization, Restructuring, and Regulation of Network Utilities," MIT Press Books, The MIT Press, edition 1, volume 1, number 0262640481, January.
    2. Rob Ball & David King, 2006. "The Private Finance Initiative In Local Government," Economic Affairs, Wiley Blackwell, vol. 26(1), pages 36-40, March.
    3. Dr Ronald W. McQuaid, 1994. "Partnerships And Urban Economic Development," Working Paper p13, Departement of Economics, Napier University.
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    More about this item


    required return to equity; value of tax shields; company valuation; cost of debt;

    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; Personnel Economics - - Business Economics - - - Business Economics

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