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Lets say you need money to do business this is called capital. However, where do you get this capital? You get it from either the owners money or equity or you get it from borrowing from the bank or other sources called debt. If your capital is borrowed from the bank, does this have a cost? Yes! Its the interest on your loan. So if the interest rate is 5%, then your cost of capital is also 5%. But if your capital comes from investors instead of a bank loan, does this have a cost? Yes! Its the expected return of your investors. If investors are expecting a 10% average return by investing with you, then your cost of capital is 10%. Its called a weighted average because it gives more weight or importance to either your borrowed capital or your investors money, whichever is greater. Now here comes our problem What if part of your capital comes from bank borrowing at 5%, and another part of your capital comes from investors expecting 10%? Is your cost of capital 5% like the
