How Do You Reduce A Company WACC By Issuing Preferred Stock?
The WACC, or weighted average capital cost, is a weighted average of all of the interest rates at which a company borrows funds. Preferred stock can be used to reduce the WACC if it lowers the overall rate. Calculate the WACC. Look at the liabilities listed on the balance sheet. Each liability has an interest rate associated with it. Separate equity liabilities such as stocks from debt liabilities such as bonds. Add up all of the equity liabilities and divide each individual liability by the combined total of all liabilities to get the percentage weight for each one. Multiply each percentage weight by the interest rate to get a weighted rate. For debt, repeat this process, multiplying the weighted rate by 1 minus the company’s tax rate as interest payments are tax-deductible. Add the weighted rate for equity to the weighted rate for debt to get the overall WACC. Preferred stock pays dividends so its required rate of return is lower than common stock. Delay paying dividends on preferred
