WACC and CAPM Calculator

Market given as
Or enter the cost of equity (optional; CAPM is then skipped)

How to use it
  1. Enter the risk-free rate, usually the yield on a long-term government bond, and the company’s beta.
  2. Give the market as its expected return or as its risk premium over the risk-free rate. If you already have a cost of equity, enter it instead and CAPM is skipped.
  3. Enter the market values of equity and debt, in the same units (dollars, or millions of dollars). Use 0 for debt if the company has none.
  4. Enter the pre-tax cost of debt, the yield the company would pay on new borrowing, and its marginal tax rate.
  5. Add preferred stock and its cost only if the company has any.

The results update as you type. To see it filled in, choose “Show an example”. CAPM and WACC give an estimate, and the answer is only as good as the beta and market premium put in. For comparing projects and for study; not financial advice.

Result

Enter the risk-free rate.

WACC is the discount rate for a project as risky as the company as a whole. Use it as the rate in the NPV and IRR calculator.

Methodology, equations and examples

The weighted average cost of capital (WACC) is the average return a company must earn to pay everyone who funds it: its shareholders, its lenders and any preferred shareholders, each weighted by their share of the total. It is the discount rate for a project as risky as the company's existing business. A project that earns more than the WACC adds value, and one that earns less destroys it.

Cost of equity: the capital asset pricing model

Shareholders have no contract that states their return, so the cost of equity is estimated. The capital asset pricing model (CAPM) prices it as the risk-free rate plus a premium for the risk the shareholder cannot diversify away:

re = rf + β (E[Rm] − rf)

  • rf – Risk-free rate, usually the yield on a long-term government bond
  • β – Beta, the sensitivity of the stock's returns to the market's. A beta of 1 moves with the market, and 1.2 moves 20 % more.
  • E[Rm] – Expected return on the market as a whole
  • E[Rm] − rf – Market risk premium, the extra return investors expect for holding the market instead of the risk-free asset

The calculator takes the market as either its expected return or its risk premium, since sources quote both. If you have a cost of equity from another method, such as a dividend growth model, enter it directly and CAPM is skipped.

Cost of debt

Interest is tax-deductible, so debt costs the company less than its lenders receive. The after-tax cost of debt is rd (1 − t), where rd is the pre-tax yield the company would pay on new borrowing and t is its marginal tax rate. Use the yield on new debt, not the coupon on old bonds, which reflects rates when they were issued.

WACC

WACC = (E/V) re + (D/V) rd (1 − t) + (P/V) rp

  • E, D, P – Market values of equity, debt and preferred stock
  • V = E + D + P – Total value of the company's capital
  • rp – Cost of preferred stock, its dividend divided by its price

Use market values, not book values, for the weights. The market value of equity is the share price times the shares outstanding. The book value of debt is usually close enough to its market value when rates have not moved much since it was issued.

Example

An illustrative company has $600 million of equity at market value and $400 million of debt. Its beta is 1.2, the risk-free rate is 4 % and the market is expected to return 10 %. It can borrow at 7 %, and its tax rate is the 21 % US federal rate.

The market risk premium is 10 % − 4 % = 6 %, so CAPM gives the cost of equity as

re = 4 % + 1.2 × 6 % = 11.2 %

The after-tax cost of debt is 7 % × (1 − 0.21) = 5.53 %. The company's capital is $1,000 million, so equity is 60 % of it and debt 40 %. Then

WACC = 0.60 × 11.2 % + 0.40 × 5.53 % = 6.72 % + 2.212 % = 8.93 %

A project with the same risk as this company's business should be discounted at about 8.93 %. One that is riskier than the company as a whole needs a higher rate, and the firm-wide WACC understates it.

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