The cost of capital is the minimum rate of return that a firm must earn on its investments to satisfy the expectations of investors and creditors. It represents the opportunity cost of using funds in a business and serves as a benchmark for evaluating investment proposals. If a project generates a return greater than the cost of capital, it adds value to the firm; otherwise, it may reduce shareholders' wealth. The cost of capital plays a vital role in capital budgeting, financial planning, valuation of firms, and determining the optimal capital structure. A business generally raises funds from different sources such as equity shares, preference shares, retained earnings, and debt. Each source has its own cost, and the overall cost of capital is determined by combining the costs of these individual components according to their proportion in the capital structure. The cost of debt is the effective rate of interest paid by the company on borrowed funds after considering the tax benefit available on interest payments. Since interest is a tax-deductible expense, the after-tax cost of debt is lower than the nominal interest rate. The formula is: After-tax Cost of Debt = Interest Rate × (1 – Tax Rate) For example, if a company pays 10% interest on debt and the corporate tax rate is 30%, the after-tax cost of debt will be 7%. This is usually the least expensive source of long-term finance because of the tax shield. The cost of preference share capital is the rate of return expected by preference shareholders. Since preference dividends are paid from profits after tax and are not tax-deductible, no tax adjustment is made. It is