What is Cost of Capital? Financials for CMOs – Episode 1
What is Cost of Capital? Christopher Engman, CMO/CRO at Proof, guides you through the jungle of financial terms and explains the meaning of cost of capital.
The capital cost or the cost of capital is the money you need to pay. Let’s say you asked for hundred million dollars, the cost of capital is the cost related to those hundred million dollars, normally interest rate or some other payments that you need to do to get a million dollars.
An example nowadays is the oil industry because there’s a fear rightfully so that the oil industry will gradually be shut down. All of a sudden the cost of capital for them trying to fund things is going up and up and up because the funders are requiring higher interest rates to carry the risk because there’s a risk that the product will be shut down and that money won’t have a return on investment.
When you’re making investments, especially in low margin industries, the cost of capital is super important. Even though you have zero cost of capital, two different investments could be equally good but then one has the double cost of capital. The margin on the first project could be zero where the margins at the second the market and the first one can be great just because of cost capital