Weaknesses of wacc as discounting rate, Finance Basics

Weaknesses of WACC as Discounting Rate

WACC/Overall cost of capital has the following problems like a discounting rate as:

  1.  It can simply be used as a discounting rate assuming such the risk of the project is equal to the business risk of the firm. A percentage premium will be added to WACC to verify the suitable discounting rate If the project has higher risk.
  2.  It suppose which capital structure is optimal that is not achievable in real world.
  3.  It is based on market values of capital that keep on changing thus WACC will transform over time however is assumed to remain constant during the economic life of the project.
  4.  It is based on past information especially whenever determining the cost of each component as like in determining the cost of equity (Ke) the past year's DPS is used whereas from the past stream of dividends the growth rate is estimated.

Note

When using market values to verify the weight/proportion in WACC, the cost of retained earnings is left out as it is already involved or reflected in the MPS and hence the market value of equity. Retained earnings are an internal origin of finance hence; whenever they are high there is low gearing, lower financial risk and hence highest MPS.

Posted Date: 1/30/2013 4:39:15 AM | Location : United States







Related Discussions:- Weaknesses of wacc as discounting rate, Assignment Help, Ask Question on Weaknesses of wacc as discounting rate, Get Answer, Expert's Help, Weaknesses of wacc as discounting rate Discussions

Write discussion on Weaknesses of wacc as discounting rate
Your posts are moderated
Related Questions
Compute the risk premium for the stock of Omega Tools if the risk free rate is 6%, the expected market return is 12%, and Omega's stock has a beta of .8.    Ome

Turnover Ratios Turnover Ratios/efficiency/asset management ratio Turnover ratio shows the efficiency along with that the firm utilized the asset or resources at its dispos

Question 1: (a) (i) What are Asset shares? (ii) State the purpose of calculating Asset shares. (b) Outline the five uses of policy Asset shares? (c) Lif

how to make a perdiem claim format to maintain the records of staff

The average of the industry current ratio was 1.86 for 2004, 0.86 for 2005, and 0.87 for 2006. Lenovo had higher current ratio than the industry average in 2004. At that time, thei

Forms of Business Organizations The term business is wide in meaning. It includes all human activities made for the sake of earning profits through the process of production of

Hatch System - Stock Exchange This is an automatic system based on the assumption such when investors sell at a certain percent age below the top of the market and buys at a s

What is Nominal and Real Return While nominal return is the return in nominal rupees, real return is equal to the nominal return adjusted for changes in prices i.e. rate of


Foreign Credit Insurance Association (FCIA) An agent of the Export/Import Bank, FCIA gives exporters with insurance coverage beside both commercial and political risk. The main