WACC (Weighted Average Cost of Capital) is the average rate a company pays to fund its assets, weighting the cost of equity and the after-tax cost of debt by their share of total capital. It is the minimum return a project must earn to satisfy investors, so it serves as the discount rate for DCF valuations and the hurdle rate for new investments.
Worked example
A company has $700,000 of equity and $300,000 of debt, a 10% cost of equity, a 6% pre-tax cost of debt and a 25% tax rate.
- Weights: equity 700,000 / 1,000,000 = 70%, debt 30%
- After-tax cost of debt: 6% × (1 − 0.25) = 4.5%
- WACC = 0.70 × 10% + 0.30 × 4.5% = 7.00% + 1.35% = 8.35%
Any project with an expected return above 8.35% adds value; anything below destroys it. Enter the same five numbers above to check the result.
WACC formula
WACC = (E/V) × Rₑ + (D/V) × Rᵈ × (1 − Tᶜ)
Where: - E = Market value of equity (market cap) - D = Market value of debt - V = E + D (total capital) - Rₑ = Cost of equity (%) - Rᵈ = Pre-tax cost of debt (%) - Tᶜ = Corporate tax rate (%)
Cost of equity is usually estimated with CAPM: risk-free rate + beta × equity risk premium. Beta measures how volatile a stock is relative to the overall market — a beta of 1.5 means the stock tends to move 50% more than the market in either direction, which investors demand a higher return for holding.
Why does the tax rate matter?
Debt interest is tax-deductible, which creates a "tax shield." The after-tax cost of debt is Rᵈ × (1 − Tᶜ). A company with 6% cost of debt and 25% tax rate has an effective debt cost of 4.5%.
Typical WACC benchmarks
| Industry | Typical WACC |
|---|---|
| SaaS / Software | 8–14% |
| Consumer goods | 6–10% |
| Utilities | 4–8% |
| Biotech | 12–20% |
Cost of equity vs cost of debt
| Cost of equity | Cost of debt | |
|---|---|---|
| What it is | Return shareholders require | Interest rate lenders charge |
| How to estimate | CAPM: risk-free rate + beta × equity risk premium | Average interest rate on borrowings |
| Tax treatment | Not deductible | Interest is deductible, so cost × (1 − tax rate) |
| Typical level | Higher (8–15%) | Lower (3–8% before tax) |
WACC in practice
- DCF valuations: WACC is the discount rate applied to future free cash flows
- Capital budgeting: only accept projects with IRR > WACC
- Capital structure decisions: optimise the mix of equity and debt to minimise WACC
- Performance measurement: ROIC > WACC means the company creates economic value
Use WACC as the discount rate in the DCF calculator or the NPV calculator, and compare it with the result of the IRR calculator. Heavy borrowing is covered by the debt-to-equity calculator.
Frequently asked questions
What is a good WACC? There is no universal good WACC: lower means cheaper funding, but the right level depends on risk. Utilities sit around 4–8%, software companies 8–14% and biotech 12–20%. What matters is that returns on new projects exceed the company's own WACC.
How do you calculate WACC? Multiply the cost of equity by equity's share of total capital, add the after-tax cost of debt times debt's share, and sum the two. With 70% equity at 10% and 30% debt at 6% pre-tax with a 25% tax rate, WACC = 0.70 × 10% + 0.30 × 4.5% = 8.35%.
Why is debt cheaper than equity in WACC? Lenders are paid first and interest is tax-deductible, so debt carries less risk and a tax shield. Shareholders sit behind lenders and demand a higher return, so adding cheap debt lowers WACC until financial distress risk starts to push both costs up.
Is WACC the same as the discount rate? For a DCF of the whole company, yes: WACC is the standard discount rate for free cash flows to the firm. For a single project with a different risk profile, use a rate that reflects that project's risk rather than the company-wide WACC.
Should WACC use book or market values? Market values. Use the market capitalisation for equity and, where available, the market value of debt; book debt is an acceptable proxy when the debt is not traded.