so I\'m doing a WACC assignment in finance and basically just looking at debt bo

Question

so I'm doing a WACC assignment in finance and basically just looking at debt bonds, etc....info on finance.yahoo.com...I was told that a NEGATIVE cost of equity doesn't make sense? I finished the assignment and was looking at my notes and it states that a negative cost of equity makes no sense. Now I have to rework all the equations, but with what? how does it not make sense? the company owes more than it has and will have to sell its assets before paying its liabilities..no a good place to be, but to me, makes sense..?? THANK YOU FOR YOUR TIME!!

Explanation / Answer

In calculating WACC, one has to consider market value of debt and equity and not book value of these terms.

Some companies has more debt that the assets on the balance sheet, so for these companies book value of equity will be negative. Negative equity doesn't make any sense, because theoretically when the company is going to liquidate, equity holders will not get paid at all. (Since all the asset's cash cash flow is used to pay its debt). So for analytical purposes equity value has to be taken as 0 instead of the negative value on the balance sheet.

So if you have calculated WACC using book value of equity, please use market value of equity which is number of shares outstanding multiplied by current share price.

I hope I answered your question. Thank you.

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