In a simple case where the company is financed by homogeneous equity and debt, the weighted

average cost of capital can be found through:

,
where , where:

Symbol Meaning Units

required or expected rate of return on equity, or cost of equity %
required or expected rate of return on borrowings before taxes %
risk free rate %
risk premium rate %
Beta coefficient -
corporate tax rate %
total debt and leases (including current portion of long-term debt and notes payable) currency
total market value of equity and equity equivalents or market cap (number of shares
currency
outstanding X share price)

Academic theory claims that higher-risk investments should have higher return long-term.

Further, highly rational investors should consider correlated volatility (beta) instead of simple
volatility (sigma).

This expected return on equity, or equivalently, a firm's cost of equity, can be estimated using
the Capital Asset Pricing Model (CAPM). According to the model, the expected return on equity is
a function of a firm's equity beta (βE) which, in turn, is a function of both leverage and asset risk
(βA):

where:

 KE = firm's cost of equity

 RF = risk-free rate (the rate of return on a "risk free investment"; e.g., U.S.
Treasury Bonds)
 RM = return on the market portfolio
 

because:

and

Firm Value (V) = Debt Value (D) + Equity Value (E)