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Professional doubt help me

MPR Sanjay Kumar (3145 Points)

20 September 2024

Hey professionals plse help what is mean by cost of capital in financial management what is the purpose of this cost of capital give some practical examples

what is mean by weighted average cost of capital give me explanation

what is mean by capital restructure

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Rama chary Rachakonda (Master in Accounts & high court Advocate) (8613 Points)
Replied 21 September 2024

Cost of capital refers to the minimum return a company must earn on its investments to satisfy its creditors, owners, and other capital providers. It represents the opportunity cost of using capital for investments. Purpose of cost of capital: 1. Investment decisions: To evaluate whether an investment will generate returns higher than the cost of capital. 2. Funding decisions: To determine the optimal mix of debt and equity financing. 3. Performance evaluation: To measure a company's performance and determine whether it is creating value for shareholders. Practical examples: 1. A company considers investing in a project with a 10% expected return. If the cost of capital is 12%, the project is rejected. 2. A company has a cost of capital of 9% and can issue debt at 7%. It may choose to issue debt to finance its operations. Weighted Average Cost of Capital (WACC): WACC represents the average cost of capital from all sources (debt, equity, etc.) weighted by their proportion in the company's capital structure. Formula: WACC = (E/V x Re) + (D/V x Rd x (1 - T)) Where: E = Market value of equity V = Total market value of the company (E + D) Re = Cost of equity D = Market value of debt Rd = Cost of debt T = Tax rate Capital restructuring: Capital restructuring refers to changes in a company's capital structure, such as: 1. Debt restructuring: Altering debt terms or replacing existing debt with new debt. 2. Equity restructuring: Changing the company's equity structure, such as issuing new shares or repurchasing existing ones. 3. Recapitalization: Significantly altering the company's capital structure, often to address financial distress. Capital restructuring aims to optimize the capital structure, improve financial performance, and increase shareholder value.

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