The cost of capital is the combined cost a company has to pay to borrow money or raise funds through selling shares.
For example, a business financed by a $200,000 bank loan at 7% interest and $300,000 in shareholder equity with an expected 12% return has a weighted average cost of capital of roughly 10.2% — meaning any investment must generate at least a 10.2% return to create value.
Why it matters: It sets the hurdle rate for new projects; a company must generate returns higher than its cost of capital to create value.
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