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Finance: What is a WACC Model? 18 Views

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WACC is an acronym for weighted average cost of capital. A company can raise money either through selling equity or by raising debt. When measuring equity, it is essentially the amount of money a company needs to make to keep shareholders from selling. In the case of debt, it is the cost of the principal and interest, along with payment terms, which can constrict cash flow. WACC is a calculated estimate that analysts often use. Ironically, the higher a stock price rises, the greater the cost of equity capital, as shareholder expectations are reset at a higher bar.

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00:00
Finance allah shmoop What is a lack model That's whack
00:07
Yeah it is people We had to go there once
00:11
okay we're done Quack stands for weighted average cost of
00:15
capital and whoa yeah that's a mouthful heavy term but
00:19
the concept's pretty simple All right Well let's say you

00:25
run the famed charcoal smoker producer grills grills grills or
00:31
grilles Cubed is matthew people like you said and you
00:33
want to buy We've got gas The finest purveyor of
00:37
propane grills on the market which will help grills Grilled
00:41
grills rule the outdoor barbecue market no matter what their
00:44
customers Fuel of choices Well you need to borrow a
00:47
ton of money to buy out your competitors A billion
00:50
dollars worth of borrow in fact it's so much dough
00:53
that you have to borrow it from three different places
00:57
Well the money you're borrowing is the capital You need
01:00
to buy your target We've got gas That's your target
01:03
Okay capital c and wacker at least one Well the
01:07
bank demands that the bank comes first in priority Should
01:11
things you know go awry and you go the b
01:14
word Yeah Bankruptcy We we don't like to say that
01:17
too loudly Run banks Okay well the bank will loan
01:20
you two hundred million dollars and we'll charge you five
01:22
percent interest on that money That five percent is your
01:25
cost of capital from that bank lender for funding round
01:29
number two while you turned a sweet and beatrix who
01:33
in addition to being a killer grill meister in her
01:36
own right Well she also happens to be loaded So
01:39
anti b agrees to loan you the second traunch of
01:42
money and we'll come in second in priority behind the
01:45
bank in collecting her dough Should you know the b
01:48
word happened She'll own you seven hundred million at seven
01:52
percent interest Great So now you only have to raise
01:55
your last hundred million box and it has to come
01:58
third in the priority stack up of collecting Should things
02:01
go you know awry With no other options you hit
02:04
up tony mafia ony the shadiest loan shark on either
02:07
side of the mason dixon So you pay your respects
02:10
you know just the glove with tongue and things get
02:13
a little weird But somehow at the end of the
02:15
day you walk away from tony's headquarters with a wallet
02:19
full of cash as your stomach is full of non
02:22
amalfi onis sunday raghu what That last hundred million box
02:26
comes with a very high interest price Twelve percent So
02:31
when the tony notes ironically that quack is the same
02:34
noise that baseball bats make when they hit knees when
02:38
will you pay attention And you do the math keenly
02:40
aware that the waiting's here are very different looks like
02:44
this and that the huge middle traunch of seven hundred
02:47
mil it's seven percent has the biggest effect on your
02:50
cost of capital because well it's a big fat seventy
02:53
percent of the total amount you're borrowing Well the first
02:55
two hundred mill is cheap at five percent and it
02:57
costs you ten million bucks here to rent that money
03:00
The second trunk of seven hundred million is kind of
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sort of mad sheepish at seven percent and it costs
03:05
forty nine mil a year to rent and that last
03:08
traunch of one hundred mil is super expensive for what
03:11
you're getting costing you twelve million a year to rent
03:14
So you add up the capital rental costs of ten
03:18
plus forty nine plus twelve and you get seventy one
03:21
million box to rent a billion dollars for this transaction
03:25
that seventy one mil to rent a bill and pay
03:28
that runs So what is your whack or weighted average
03:32
cost of capital Well seventy one million over a billion
03:36
or seven point one Percent The black models always percentage
03:40
Some companies will use their stock to buy a competitor
03:44
er rather than using cash But that's not always the
03:46
case and calculating the cost of equity is way more
03:49
complex and involves a lot more smoke and or mirrors
03:52
So we're just doing debt here people and there you
03:54
have it Whack in a nutshell But you know what's
03:57
not whack shmoop snu finance themed hip hop album on
04:00
sale soon coming soon to a itunes thinking you're you 00:04:04.93 --> [endTime] yeah we'll eat your heart out there hamilton
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