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WACC vs cost of equity

Published August 17, 2026

Cost of equity is what shareholders require. WACC blends that rate with the after-tax cost of debt. With $6,000,000 of equity at 9 percent and $4,000,000 of debt at 5 percent, taxed at 25 percent, WACC is 6.9 percent and the cost of equity is still 9 percent.

	WACC	Cost of equity
What it prices	The operations, cash flow to the whole firm.	The residual claim, cash flow to equity after interest.
Teaching sheet	$6,000,000 of equity at 9 percent, $4,000,000 of debt at 5 percent, tax 25 percent. WACC 6.9 percent.	The same 9 percent. After-tax debt cost is 3.75 percent, which is not a cost of equity.
Tax term	The debt piece is $r_d(1-t)$ . At 5 percent and 25 percent tax that is 3.75 percent.	No $(1-t)$ . Dividends and buybacks come out of taxed profit.
Tax at zero	WACC rises to 7.4 percent. The shield was worth 0.5 points.	Still 9 percent. The equity rate does not carry the deduction.
More debt, costs held still	A 40/60 mix prints 5.85 percent. Holding both input costs still is the trick.	Still 9 percent in the formula. In a live firm it would climb, because financial leverage raises the residual risk.
Which discount rate	Unlevered cash flows, free cash flow to the firm.	Cash flow to equity, after interest.

A blend, against one of its inputs

WACC is $0.60 \times 9\% + 0.40 \times 3.75\% = 6.9\%$ on this sheet. The 9 percent is the cost of equity. The 3.75 percent is the after-tax cost of debt. Quoting 6.9 percent as if it were what shareholders require understates the residual claim by 2.1 points here.

How WACC works is the blend. How after-tax cost of debt works is the 3.75 percent. The WACC calculator returns all three. The WACC explorer holds the two input costs still and lets you drag the mix: WACC slides toward 3.75 percent, the cost of equity in the formula does not move, and that is the picture's limitation.

Book value is not a stand-in for market equity when you form the weights.

Discount the matching cash flow

WACC already contains the cost of the debt, so the cash flows it discounts are cash flows to the whole firm, before interest. Take interest out of the cash flow and then discount at WACC, and the lenders have been charged twice. The other pairing is cash flow to equity, after interest, discounted at the 9 percent.

Holding both input costs still, flipping the mix to $4,000,000 of equity and $6,000,000 of debt drops WACC to 5.85 percent. The 9 percent in the formula is unchanged. In a live firm it would not be: financial leverage raises the cost of equity. Reprice the 40/60 mix at 11 percent on the equity and 6 percent on the debt, 4.5 percent after tax, and WACC reads 7.1 percent. Cheaper debt did not stay cheaper.

This is educational material, not financial advice.

Worked examples

WACC on a 60/40 capital structure

A company is funded by $6,000,000 of equity and $4,000,000 of debt. Shareholders require 9 percent, lenders charge 5 percent, and the marginal tax rate is 25 percent. What is its WACC?

Add the two market values to get total capital: $6{,}000{,}000 + 4{,}000{,}000 = 10{,}000{,}000$ .
Equity weight is equity over the total: $6{,}000{,}000 / 10{,}000{,}000 = 0.60$ , so 60 percent. Debt takes the rest, 40 percent.
Take the tax relief off the cost of debt: $5\% \times (1 - 0.25) = 3.75\%$ .
Weight each cost: $0.60 \times 9\% = 5.4\%$ from the equity side, $0.40 \times 3.75\% = 1.5\%$ from the debt side.
Add the two: $5.4 + 1.5 = 6.9$ .

WACC is 6.9 percent. Equity supplies 60 percent of the capital at 9 percent, debt supplies 40 percent at 3.75 percent after the deduction. The cost of equity on this sheet is still 9 percent.

The same company with no relief on interest

Same $6,000,000 of equity and $4,000,000 of debt, same 9 percent and 5 percent. Now run it where interest earns no deduction at all, either because the rules do not allow one or because there is no taxable profit to shelter. How much of the WACC was the deduction doing?

With no relief the cost of debt stays where the lender set it: $5\% \times (1 - 0) = 5\%$ .
The weights have not moved, since neither market value changed: 60 percent equity, 40 percent debt.
Blend them: $0.60 \times 9\% + 0.40 \times 5\% = 5.4\% + 2\% = 7.4\%$ .
Set that beside the 6.9 percent from the first example. The gap is 0.5 percentage points. The cost of equity is still 9 percent.

Without the deduction WACC is 7.4 percent rather than 6.9 percent, so the tax treatment of interest is worth 0.5 percentage points to this company. The cost of equity did not move.

Common questions

Can WACC be above the cost of equity?

In the two-source formula it sits between the cost of equity and the after-tax cost of debt. A third source priced above the cost of equity, such as preferred stock, can lift it above. This calculator runs the two-source case.

Which one goes into a DCF of the operations?

WACC, against unlevered cash flow. A DCF of cash flow to equity uses the cost of equity.

Does more debt lower the cost of equity?

No. More debt raises the residual risk, so the cost of equity climbs. WACC can still fall for a while because of the tax term, until distress prices into both costs.

Keep reading

This page is educational material, not financial advice. The figures come from the formula shown and assume the inputs you enter hold for the whole term. Your own rate, fees, taxes and timing will differ, so treat the output as arithmetic to check a decision against, not as a recommendation.