### Calculating the WACC

• Market values or book values?
• Book values are historical
• Market values reflect current requirements

Note that retained earnings are ignored in WACC

• Before or after tax?
• Before-tax WACC for before-tax cash flows
• After-tax WACC for after-tax cash flows
• Which tax rate to use?

### Calculating the WACC

• To find the average cost of capital, we weight individual costs of capital by their proportions in the firm’s capital structure

E = value of equity D = value of debt
E/(E+D) is the proportion of equity
D/(E+D) is the proportion of debt

### Calculating the WACC

• Cost of equity: Ke = 16.9%
• Cost of preference shares: Kp = 13.4%
• Cost of irredeemable debt: Kid = 9.7%
• Cost of redeemable debt: Krd = 8.7%
• Cost of bank loans: Kbl = 8.8%

Note that the relative costs of the different sources reflect their relative risks, i.e. reflect the risk-return hierarchy of financial securities.

### Calculating the WACC

Weighting by market values (see textbook)

• Equity: 16.9% x 633.6/871.5
• Preference shares: + 13.4% x 33.5/871.5
• Irredeemable debt: + 9.7% x 68.4/871.5
• Redeemable debt: + 8.7% x 76.0/871.5
• Bank debt: + 8.8% x 60.0/871.5

= 14.9% = WACC

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