WACC Calculations in Practice: Incorrect Results due to Inconsistent Assumptions - Status Quo and Improvements

Matthias C. Grüninger and Axel H. Kind

Accounting and Finance Research, 2013, vol. 2, issue 2, 36

Abstract: This paper argues that in practical applications the weighted average cost of capital (WACC) is often incorrectly estimated due to the simultaneous use of two inconsistent input parameters- (i) a beta of debt equal to zero when transforming asset betas into equity betas (beta levering) and (ii) a cost of debt above the risk-free interest rate when calculating the WACC. The paper discusses and quantifies the consequences of this inconsistency and offers viable solutions. By replacing the cost of debt with the risk-free rate, a more accurate WACC is calculated and the estimation of the cost of debt becomes obsolete. Furthermore, the paper presents a solution to obtain the correct WACC without increasing the calculation’s complexity.

Date: 2013
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