cost of capital

Examples of cost of capital in the following topics:

• Cost of capital

  • The cost of capital is the rate companies must pay to finance a project.
  • The cost of capital refers to the cost of the money used to pay for the capital.
  • In order to determine a company's cost of capital, the cost of debt and the cost of equity must be calculated.
  • One way of combining the cost of debt and equity to generate a single cost of capital number is through the weighted-average cost of capital (WACC).
  • The cost of capital is the cost of the money used to finance the plant.

• The Marginal Cost of Capital

  • The marginal cost of capital is the cost needed to raise the last dollar of capital, and usually this amount increases with total capital.
  • The marginal cost of capital is calculated as being the cost of the last dollar of capital raised.
  • This happens due to the fact that marginal cost of capital generally is the weighted average of the cost of raising the last dollar of capital.
  • Since the cost of issuing extra equity seems to be higher than other costs of financing, we see an increase in marginal cost of capital as the amounts of capital raised grow higher.
  • The Marginal Cost of Capital is the cost of the last dollar of capital raised.

• Cost of Capital Considerations

  • One of the major considerations that overseers of firms must take into account when planning out capital structure is the cost of capital.
  • For an investment to be worthwhile, the expected return on capital must be greater than the cost of capital.
  • A company's securities typically include both debt and equity, so one must therefore calculate both the cost of debt and the cost of equity to determine a company's cost of capital.
  • The weighted average cost of capital multiplies the cost of each security by the percentage of total capital taken up by the particular security, and then adds up the results from each security involved in the total capital of the company.
  • Describe the influence of a company's cost of capital on its capital structure and investment decisions

• Impact of the SML on the Cost of Capital

  • The plotted location of an instrument on the SML has consequences on its price, return, and cost of capital it contributes to a firm.
  • The cost of obtaining funds in such a manner is known as a company's cost of capital.
  • The rational investor will require either a higher return or lower price, which will both result in a higher cost of capital for the company.
  • The location of a financial instrument above, below, or on the security market line will lead to consequences for a company's cost of capital.
  • Describe the impact of the SML on determining the cost of capital

• Weighted Average Cost of Capital

  • In short, the WACC is a measure of what all of these capital inputs will cost the organization in terms of an average interest rate.
  • WACC is a useful calculation, as it shows management what the cost of borrowing capital is overall.
  • This overall cost of capital can then be a minimum required return on any new operation.
  • Calculating the cost of capital is actually quite a simple equation.
  • By calculating the estimated cost of equity, and applying that to the WACC equation with the cost of debt and capital structure, organizations can determine the cost of capital (and thus the required return on projects/assets).

• Optimal Capital Structure Considerations

  • One of the major considerations that overseers of firms must take into account when planning out capital structure is the cost of capital.
  • For an investment to be worthwhile, the expected return on capital must be greater than the cost of capital.
  • A company's securities typically include both debt and equity; therefore, one must calculate both the cost of debt and the cost of equity to determine a company's cost of capital.
  • The weighted average cost of capital multiplies the cost of each security by the percentage of total capital taken up by the particular security, and then adds up the results from each security involved in the total capital of the company.
  • Explain the influence of a company's cost of capital on its capital structure and therefore its value

• The Cost of New Common Stock

  • When it comes to the cost of capital, common stock is one of a few options on the table for raising funding.
  • In order to understand the weighted average cost of capital (WACC) of all of these inputs, the cost of each source of debt and/or equity must be determined.
  • In terms of literal capital spent, the issuance of new common stock incurs a variety of capital costs both at the initial offering and throughout the process of managing this funding source over time:
  • In addition to the tangible capital costs involved, there are also a variety of indirect trade-offs that organizations must understand prior to pursuing this source of funding.
  • Weigh the direct and indirect costs of issuing new common stock as a form of capital

• Cost of Improvements

  • The cost of an asset improvement is capitalized and added to the asset's historical cost on the balance sheet.
  • The cost of the improvement is capitalized and added to the asset's historical cost on the balance sheet.
  • Since the cost of the improvement is capitalized, the asset's periodic depreciation expense will be affected, along with other factors used in calculating depreciation.
  • When the cost of a capital improvement is capitalized, the asset's historical cost increases and periodic depreciation expense will increase.
  • Examples of expensed costs include payment of regular service maintenance on equipment and machinery.

• Types of Costs

  • Variable costs change according to the quantity of goods produced; fixed costs are independent of the quantity of goods being produced.
  • It consists of variable costs and fixed costs.
  • Total cost is the total opportunity cost of each factor of production as part of its fixed or variable costs .
  • Variable costs are also the sum of marginal costs over all of the units produced (referred to as normal costs).
  • They include inputs (capital) that cannot be adjusted in the short term, such as buildings and machinery.

• Economic Costs

  • An example of economic cost would be the cost of attending college.
  • So, the economic cost of college is the accounting cost plus the opportunity cost.
  • An example of economic cost would be the cost of attending college.
  • Inputs include labor, capital, materials, power, land, and buildings.
  • Cost curves: a graph of the costs of production as a function of total quantity produced.