Cost of capital measures the returns needed to make a company’s investment financially worthwhile.
What is cost of capital?
Cost of capital helps companies decide which projects to fund. Because most businesses are profit-driven, they will rarely invest in projects that cost more than the expected return. Companies may also weigh the project’s opportunity cost, the potential benefit of putting money elsewhere.
Morningstar rates companies’ abilities to invest in financially worthwhile projects by using the Morningstar Capital Allocation Rating. This rating assesses executive leadership on the quality of their investments, how they balance investing in the business and returning cash to shareholders, and whether they can identify and divest underperforming businesses. Companies can receive a rating of Exemplary, Standard, or Poor.