Question

• What is WACC for you firm? Based on everything you have done in this assignment, give a hard estimate for the WACC. What would you suggest managers use and why?
• Why is it important to estimate a firm’s WACC? What is it used for?
• What should management do if none of the available projects earn an adequate WACC?
• Why do we use an after-tax figure for the cost of debt but not for the cost of equity?
• Should the company you evaluated use the WACC as the hurdle rate for all projects? Explain.

Answer 1

1)WACC is called weighted average cost of capital to the firm. Here each type of financing option like debt equity preferred shares are given weight accordingly and we will calculate average cost of capital. As the assignment not provided by you here roughf estimate cannot be given

2)It is important to estimate the WACC because it is used as a hurdle rate to select projects. Wacc is used in following way investors will compare ROIC(return on capital employed) with WACC and take decisions wheather to invest in company or not

3)If none of the projects earn rate which is less than WACC then management should stop the projects because it will not cover the costs we incurred to finance the projects

4)Tax rate is only considered in debt but not equity because interest on debt is expense to the company which will reduce the income which will save tax. Where dividends paid on shares is not an expense it is like withdrawal of profit which will not save tax

5)yes the companies shall use WACC as a hurdle rate to evaluate projects because it is the rate we should pay so we should get more return than that rate. So it is used as hurdle rate