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3.2 Analysis of breakpoints in weighted marginal cost of capital schedule (more than two breakpoints)
When analyzing breakpoints in the weighted marginal cost of capital (WMCC) schedule with more than two breakpoints, it is important to understand that the WMCC schedule represents the cost of capital at different levels of financing or capital structure. Breakpoints occur at the points where there is a change in the cost of capital due to a change in the weightage of different sources of financing.
To analyze breakpoints in the WMCC schedule with more than two breakpoints, the following steps can be followed:
- Identify the breakpoints: Review the WMCC schedule and identify the points where there are significant changes in the cost of capital. These points represent the breakpoints.
- Calculate the weighted average cost of capital (WACC) for each range: Determine the WACC for each range between the breakpoints. This involves calculating the weighted average cost of debt and equity for each range based on their respective weightages.
- Calculate the break-even point: The break-even point is the level of financing where the cost of capital changes. Calculate the break-even point between each pair of breakpoints by equating the WACCs for the adjacent ranges.
- Analyze the impact of breakpoints: Assess the impact of breakpoints on the company’s financing decisions. Evaluate how changes in the cost of capital at each breakpoint may influence the optimal capital structure or financing choices. Consider the implications for funding future projects or investments.
- Sensitivity analysis: Conduct sensitivity analysis to understand the sensitivity of the breakpoints to changes in the underlying assumptions, such as interest rates, market conditions, or financing costs. This helps in evaluating the stability and reliability of the breakpoints.
- Decision-making: Based on the analysis of breakpoints, make informed financing decisions. Consider the trade-offs between the cost of capital, risk, and other relevant factors in determining the optimal capital structure for the company.