Weighted Average Cost of Equity - WACE

  

Categories: Metrics, Investing

See: WACC.

There are really two ways to fund companies: Via debt, and via equity. The cost of debt is usually pretty easy to calculate, because there is usually some set interest rate to rent that principal until borrowers pay it back.

The cost of equity is different. You're a high growth internet company and you want to sell 10% of yourself to raise dough. Well, one player values you at $100 million, another values you at $50 million, and another values you at $200 million. You'll obviously go with the best valuation, but what was the cost of selling that equity? If in five years you are public after your IPO and Wall Street values you at $10 billion, then the 10% of yourself you sold was a cost, based on today's numbers, of $1 billion. Yet you sold 10% for only $20 million five years earlier. But could you have grown this much if you didn't raise capital five years earlier? Yeah, it's complex.

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Finance: What are Time-Weighted Rate Of ...1 Views

00:00

Finance allah shmoop what are time and risk waited rates

00:06

of return a dollar today is worth more than a

00:10

dollar tomorrow Like that's the central prayer of the financial

00:15

force Here's the gist You've double your money in an

00:17

investment Is that good Bad ugly mon We need a

00:20

whole lot more information here Tto answer Did you buy

00:22

thirty eight million and two dollars worth of lottery tickets

00:26

and that last two dollar ticket got you seventy six

00:28

million in winnings Was that like a good investment Or

00:33

how about this You took thirty six years to double

00:35

your money Was that good I answer to both No

00:38

not at all The lottery ticket example is a risk

00:42

waited return The lottery famously takes advantage of ignorant people

00:46

spending their hard earned money on tickets representing dreams but

00:50

which have horrible odds of any kind of decent pay

00:52

back But the lottery makes go into a vegas casino

00:55

look like actually a good deal so you may win

00:58

but it's a bad risk no matter how you look

01:00

at it And hey somebody has to pay those teacher

01:03

pension bill So why shouldn't it be people who didn't

01:06

graduate high school Right Well the time waiting is a

01:09

big deal to in a world where the stock market

01:12

broadly speaking doubles on its own About every eight nine

01:15

ten twelve years Something like that This calculation is done

01:18

over very long periods of time and it's held true

01:20

for about a century and change in america So if

01:23

he took thirty six years to double your money well

01:26

it implies you only made two percent a year as

01:28

your rate of return Remember that rule of seventy two

01:31

thing Yeah that right there Seventy two divided by thirty

01:33

six and you get a whopping two percent return Well

01:36

in that same period of time the market might have

01:38

doubled in four times So the ten grand that double

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to be twenty grand in thirty six freakin years under

01:44

your watch we'll have you just put it into an

01:47

index fund of the s and p five hundred over

01:50

that same time period Well it would have doubled once

01:52

along the timeline here to be twenty grand then doubled

01:55

again here to be forty grand and then doubled again

01:58

here to be a tigre rine and then ah forthe

02:01

doubling right here after thirty six years maybe one hundred

02:04

sixty grand And that's just an index fund Nothing fancy

02:07

Not warren buffett Just a basic vanilla index fund that

02:10

anyone with two hundred fifty bucks in their pocket can

02:13

buy And it's worth noting dividends which often get ignored

02:17

in the financial press actually matter a ton when it

02:19

comes to the calculation of long term investment results Generally

02:22

speaking that continued payment of dividends is a low risk

02:25

adventure Very few companies ever cut or fully do away

02:28

with their dividends And if they do well it means

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a pretty much everything is rotten in denmark so you

02:34

can count on dividends The bolster overall returns that historically

02:37

dividends have had a wide range of somewhere between two

02:40

and seven or eight percent for the mid range of

02:43

the s and p five hundred But if you pegged

02:45

them around and three ish percent today and changed to

02:47

reflect the modern era well then the overall market need

02:50

only compounded about five percent To deliver that five plus

02:54

three percent and change eight ish percent total returns That

02:57

will allow the stock market to double about every nine

03:00

years or so right so we're ignoring taxes here but

03:03

we're ignoring the use of dividends proceeds to buy more

03:05

shares every quarter as well when those dividends air paid

03:08

So when you think about time and risk think about

03:10

them like they're a kind of financial stone soup which

03:13

when mixed together with the right spices of tax hedges

03:16

leverage and a bull market well make a really nice

03:19

retirement meal and you don't even need your teeth on 00:03:22.773 --> [endTime] a bonus

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