This chapter has discussed cost of capital. The most important concept is the weighted average cost of capital, or WACC, which we interpreted as the required rate of return on the overall firm. It is also the discount rate appropriate for cash flows that are similar in risk to those of the overall firm.

We described how the WACC can be calculated, and we illustrated how it can be used in certain types of analyses. We also pointed out situations in which it is inappropriate to use the WACC as the discount rate. To handle such cases, we described some alternative approaches to developing discount rates, such as the pure play approach. We also discussed how the flotation costs associated with raising new capital can be included in an NPV analysis.