Week 05 - Equity capital, debt capital, CAPM and WACC


In the fifth week of lectures the lecturer explained us about the equity capital, debt capital, cost asset pricing model and weighted average cost of capital. Equity capital is funds paid into a business by investors in exchange for common or preferred stock. This represents the core funding of a business, to which debt funding may be added. Once invested, these funds are at risk at risk, since investors will not be rapid in the event of a corporate liquidation until the claims of all other credits have first been seen settled. Despite this risk, investors are willing to provide equity capital for one or more of the following reasons:

Owing a sufficient number of shares gives an investor some degree of control over the business in which the investment has been made. 
  • The investee may periodically issue dividends to its stockholders
  • The price of the shares may appreciate over time, so that investors can sell their shares for a profit

Debt capital is knows as a part of the total capital invested in the business that is raised through loans. The company has to repay the load in the future date as per the agreement with the banks or investors. Debt capital can be divided into two parts, long term debt and short term debt. 

Capital asset pricing model describes the relationship between systematic risk and expected returns for assets, particularly stocks, CAPM is widely used throughout finance for pricing risky securities and generating expected returns for assets given the risk of those assets and cost of capital. 

The weighted average cost of capital is a calculation of a firms cost of capital in which each category of capital is proportionately weighted. All sources of capital, including common stock, preferred stock, bonds, and any other long-term debt, are included in a WACC calculation. A firms' WACC increases as the beta and rate of return on equity increase because an increase in WACC denotes a decrease in valuation and an increase in risk. 




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