It is not that simple to understand financial formulae, terminologies and the logic used to carry out these calculations. When you talk about WACC (Weighted Average Cost of Capital), it defines the cost of capital through different financial channels.
These include debt, common shares as well as preferred shares. Through WACC, the net value of a business venture can be determined. Companies do need to check their monetary standing and WACC is used for this purpose.
Looking at the formula and involved parameters
To perform any financial calculation, it is important to develop an understanding and know about the involved parameters.
The formula of WACC is given as follows.
- WACC = (E/V x Re) + ((D/V x Rd) x (1 – T)).
The terms used in this formula are listed below.
- E = market value of the firm’s equity (market cap)
- D = market value of the firm’s debt
- V = total value of capital (equity plus debt)
- E/V = percentage of capital that is equity
- D/V = percentage of capital that is debt
- Re = cost of equity (required rate of return)
- Rd = cost of debt (yield to maturity on existing debt)
- T = tax rate
Interpretation of the formula
It is not that simple to understand this formula if you don’t have a background of financial modelling. People who don’t have abundant knowledge of this area should use automated methods to perform the calculation.
Now you can easily calculate wacc with the help of an online calculator. This will help you to smoothly run your business. The capital structure of a company comprises of several parts and the cost of each one of them is determined through WACC. Here are the areas for which the cost is determined.
- Cost of Equity
- Cost of Debt and Preferred Stock
Determination of Cost of Equity
In most cases, financial calculations are carried out using a model. In the case of cost of equity, the CAPM model is used. The following formula is used to determine the cost of equity. This cost is determined using the formula given below.
- Re = Rf + β × (Rm − Rf)
The parameters used in the formula given above are explained as follows.
- Rf = the risk-free rate
- β =equity beta
- Rm = annual return of the market
Determination of cost of debt and preferred stock
As compared to the previous steps of the calculation, this is an easier one. The cost of debt is a term which defines the factor of yield to maturity.
Similarly, the cost of preferred stock is an analysis of the yield for preferred stock. These two terms are important components of the WACC value. People who do not have relevant financial knowledge find it hard to understand this term and calculate the value of WACC.
Making mistakes with WACC calculations
It is a perception in the minds of several people that financial calculations can be performed manually. This is very much possible but you can end up with several issues.
The calculation of WACC is a complex one so if you are not using a tool, countless errors can be made. The formula for WACC is a hard one and even if one term has been entered incorrectly, the overall result would be wrong.
Even professional financial analysts do not use manual methods to determine the value of WACC. The slightest mistake can make the overall result erroneous.
Thus, the best way out is using a high standard online calculator. With such dependable tools, you can get the assurance that the answers would not have any mistakes.
Saving time with WACC calculators
Everyone wants to save time and complete tasks in the shortest possible time duration. Calculating the WACC value through the standard manual method is not a time-efficient option by any means.
WACC is not an easy form of financial calculation. Before you determine the value of the weight average cost capital, you need to have the individual values of several parameters.
These include market value of the firm’s debt, total value of equity as well as tax. It is not simple to incorporate all these factors and then find out the value of WACC.
Using an online calculator is obviously more efficient. As it is an online automated tool, no mistakes are made while the calculations are being performed.
Financial analysts usually have less time on their hands. If you have to calculate WACC in a small time frame, what would be the best option for you?
It is obvious that calculating WACC without using an online tool would not be the best way out. It is very hard to meet calculation timelines when you do not have access to a quality online calculator.
Thus, in a nutshell, if you want your WACC calculations to be correct, make sure that you are using a quality online calculation tool.
WACC calculation tools are simple to operate
At times, a lot of effort has to be put in by the user to understand a tool. If you are unable to grasp a tool, it would be impossible to get done with the calculations in quick time.
WACC calculators are very simple so no assistance is needed to perform the calculation. These calculators are used online so you can start off without exhausting your storage with heavy installations. Simply click the link to the tool and use it.
Summing It Up
The WACC factor defines the cost of capital and different factors are taken into consideration for this purpose. The cost of debt and equity and preferred stock are important stages of the calculation process.
Ideally, using manual calculation procedures is not the best way to determine WACC. A better option is getting hold of an online calculator to complete the task. These calculators are used for free and produce accurate WACC values.