Weighted Average Cost of Capital Essay Example

$62 per share. This gave me the totals for shareholders equity. Once these actions were complete, I total the three items in the market value column, column (c), to find the market value of the enterprise- $83. 5 billion. In column (d) insert the proportion of each item. I divided each number in column (c) by the "Total" of this column.

The sum of these proportions adds up to 1. 0000. In column (e) you insert the cost of each of the sources of financing. For short-term liabilities please find out what is the present rate of interest that companies pay on short-term loans. In this case that was 2. 3%. The cost of short-term liabilities is the after tax cost, that is the interest rate times (1-T), where T is the corporate tax rate that you may assume T = 0.

For long-term liabilities: I assumed that McDonald's pays on its long-term liabilities an interest rate that is about 1% higher than the present yield to maturity of a 5-year US Government bond. I found out the present yield to maturity on a 5-year US Government bond, 3.125% and then added 1% to that yield. You then multiply the result by (1 - T) because interest on a company's debt is deductible for tax purposes and the effective after-tax cost of debt is the yield the company is to pay times (1 - T) 0312(1-34) = 0312(66) = 0272

For equity: I used the beta of Mcdonald's and the computation of the cost of equity from the previous report of the Session Long Project to insert the cost of equity (in %). McDonald’s beta is 1. 07.

1.07 x 07 = 0749 .0749 + 2. 07 = 2.1449 2. 1449 is the cost of equity for Mcdonald's. Finally, I added to add up the first three numbers in column (f). The sum of these numbers is your company's weighted average cost of capital (WACC. ), which is 2. 43%.

The weighted average cost of capital (WACC) is the rate that a company is expected to pay to finance its assets. WACC is the minimum return that a company must earn on an existing asset base to satisfy its creditors, owners, and other providers of capital. Companies raise money from a number of sources: common equity, preferred equity, straight debt, convertible debt, exchangeable debt, warrants, options, pension liabilities, executive stock options, governmental subsidies, and so on. Different securities are expected to generate different returns. WACC is calculated taking into account the relative weights of each component of the capital structure. Broadly speaking, the assets of a company are financed by either debt or equity.

WACC is the average of the cost of each of these sources of financing weighted by their respective usage in the given situation. By taking a weighted average, we can see how much interest the company has to pay for every dollar it borrows. A firm's WACC is the overall required return on the firm as a whole. It is the appropriate discount rate to use for cash flows similar in risk to the overall firm.

References

1. http://www.msn money. com
2. http://www. investopedia. com/terms/
3. http://www. wikepedia.com
4. McDonalds – SLP, Module 4, Finance 501
5. Michael Kauffman September 1, 2008 Corporate Finance FIN 501.com