What risk does WACC not cover?

Saw this question radonmly. I believe it does not cover operational risks of a company since the calculation of WACC only concerns a company's capital structure and market metrics such as cost of debt and cost of equity. You could argue that it captures operational risk by saying that if a company has trouble operating normally, the market would capture the operational issue and reflect it in the company's beta.

What do you think?

 

Assuming efficient markets (which they are not) a company’s market performance should technically incorporate operational performance into the consideration. Therefore, beta should capture operational risk. A risk not captured by WACC? Stupidity risk. Some dumbass in a company that makes a random stupid decision that impacts a company in a material adverse way.

 
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Illiquidity premium Small cap premium Value premium (in academic studies it’s low price to book)

 

Assuming you use the CAPM to calculate your cost of equity, your WACC would be capturing the “MKT” risk factor, or the covariance of the target’s excess return with the market’s excess return. This represents the firm-specific exposure to changes in market-wide systematic risk, like how the macroeconomy is doing. The CAPM frequently has an r squared of less than 0.3 for individual companies, so in fact most of the risk is not being captured, but we use it for simplicity. The CAPM is just another factor-based asset pricing model with only one factor: MKT. The Fama-French five-factor model “FF5” is calculated using a multiple linear regression, so you will have a beta for each factor, which represents exposure to that factor. These include the excess return on small stocks (“SMB”), excess return on value stocks (“HML”), and a few others I don’t care to mention. At an investment bank, you will usually use an MSCI Barra Beta, which basically uses a multi-factor model to calculate the equivalent one-factor beta. You can run a factor regression (FF5, AQR) on the website Portfolio Visualizer, and get a cost of equity easily that way, which will represent actual risk exposure more accurately than MKT alone.

 

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