Weighted average cost of capital (WACC) is the blended required return on the debt and equity funding a business. It combines what lenders charge with the return equity investors require for the risk they take.

The two costs and their weights

The cost of debt is the required borrowing rate, with a supported tax adjustment where the interest deduction applies. The cost of equity is the return owners require for investing their capital at risk. It is an investment-return assumption, not a salary or a promised distribution.

For a capital structure containing debt and common equity:

WACC = debt weight × after-tax cost of debt + equity weight × cost of equity. The weights reflect the supported market-value funding proportions and sum to 100%. Other financing classes need their own treatment. NYU Stern explanation of WACC inputs.

In a hypothetical example, 30% debt at a supported 6% after-tax cost and 70% equity at a 20% required return gives 15.8% WACC: 1.8% plus 14%. These are teaching assumptions, not a recommended rate for your company.

Match the rate to the cash flow

WACC discounts projected cash flow to the firm in a valuation of operations. Cash flow to equity uses the cost of equity instead. Mixing the two can misstate value. NYU Stern explanation of matching rates and cash flows.

WACC does not mechanically set an EBITDA multiple

The multiple also depends on the earnings basis, growth, reinvestment, cash conversion and market evidence. One divided by WACC is not a universal EBITDA valuation rule.

A stronger business can reduce some risks, but the Velocity Score™ records evidence of installed capabilities. It does not calculate WACC, a risk premium or a buyer’s offer. The financial assumptions need their own support.

Retain the valuation date, cash-flow basis, rate inputs and supporting sources with the financial model.

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