Discount rate (WACC)

Also called: discount rate, cost of capital, capm

The yearly return investors need to make owning the company worthwhile. Future cash is divided down by this rate to give its value today.

Formula

WACC = (E ÷ V) × Cost of equity + (D ÷ V) × Cost of debt × (1 − Tax rate)

Worked example

1. E = market value of equity, D = debt, V = E + D.
2. Cost of equity (CAPM) = Risk-free rate + Beta × Equity risk premium.
3. Example: 4.3% gilt/Treasury yield + 1.2 beta × 5% premium = 10.3% cost of equity.
4. Cost of debt = the interest rate the company pays, reduced by the tax it saves on interest.

How to read it

Most large companies land between 7% and 11%. A higher rate means a lower valuation. Small changes here move the result a lot, which is why the sensitivity table exists.

See it with real numbers: DCF → (free account)