Weighted Average Cost Of Capital (WACC), Commodity Historic Prices, Index Prices, And Country Risk

The Weighted Average Cost of Capital (WACC) is a calculation of a company’s proportionately weighted capital according to specific categories. All sources of capital – common stock, preferred stock, bonds, and any other debt are included. It’s computed by multiplying the cost of each capital source by its proportional weight (% of total capital) and then working through this equation.

WACC = (E/V) * Re + (D/V) * Rd * (1-Tc)

Where:

Re = cost of equity

Rd = cost of debt

E = market value of the firm’s equity

D = market value of the firm’s debt

V = E + D

E/V = percentage of financing that is equity

D/V = percentage of financing that is debt

Tc = corporate tax rate

The WACC is useful in determining how a company gains its capital. Is it financing itself through debt or equity? The WACC helps answer that question. Computing WACC offers insight into a company’s ability to make returns upon its investments and, hence, money for investors. The WACC is often used by internal management to steer the company toward beneficial, moneymaking projects and away from losing ones.

A historical commodity price index will illustrate prices of a commodity at specific historical times. Over a given period of time the average of these indexed prices gives the commodity’s historical price. Speculation on future commodity prices can be made on fluctuation’s of the commodity’s historical price. The spot commodity price is the price of a commodity “on the spot” where it is being sold on the cash market.

Index closing prices are the numbers we hear given on nightly news broadcasts. The NYSE index and NASDAQ index are both examples of whole market stock indices. The Dow Jones Industrial Average and the S&P 500 are examples of broad-base stock indices. The prices of these broad indices are determined by using the closing prices issued by the primary exchange for each member stock in the index. If the price changed during the trading day, the new price is used to calculate the index closing price. Thus, with the S&P 500 calculations of price fluctuations for all 500 member stocks each day are made to determine the daily index price.

Country risk rates reflect the risk of investment in that country. Government stability, both political and financial, factor into this heavily. Banks may use this term to determine whether or not it wants to provide financing to a company that does a lot of business overseas. The magazine Euromoney puts out a survey of country risk and ranks them.