To calculate my weighted average cost of capital or WACC after asking myself how the company is funded What proportion of the company is funded with debt and what proportion is funded with equity? Let's say my company is 50% funded with debt and 50% funded with equity. The next question. I have to ask myself is what interest do I pay on my debt or what is my cost of debt? Let's say it's 5% Then I need to consider how much of a return My equity holders require in other words. What's my cost of equity? Let's say that's 10% great. Now we have the cost and the relative waiting for both the last sources of financing. We can very easily calculate the weighted average of these to give the WACC or weighted cost of capital using my very simple numbers a 50/50 split debt in equity 5% cost of debt and 10% cost of equity the WACC calculated would be 7.5% If the business generated 7.5% Returns on all its Investments, it would be able to return 10% to its equity holders and 5% to its debt holders.

It is really worth noting that the valuation you eventually get at the end of a discounted cash flow is very sensitive to the WACC and its component part your cost of debt and your cost of equity more. So the cost of equity are very difficult to calculate accurately. So we have to make some assumptions and changing those assumptions can quite dramatically change the eventual valuation your DCF gives.