What is the "marginal cost of capital"?

The marginal cost of capital refers specifically to the cost associated with raising an additional unit of capital. This concept is important for firms when making investment decisions, as it helps assess the cost-effectiveness of funding new projects or initiatives.

When a company evaluates potential investments, it can compare the expected return on those investments to the marginal cost of capital. If the expected return exceeds the marginal cost, the investment is likely worth pursuing. It reflects the incremental increase in financing costs for the next dollar raised, taking into account the mix of debt and equity the company might use.

In contrast, the other options represent different aspects of capital finance but do not capture the essence of the marginal cost of capital. The total cost of raising capital is more general and includes all costs rather than focusing on an incremental increase. The cost of issuing new equity shares pertains specifically to equity financing and does not include debt considerations. The fixed cost of maintaining existing capital relates to ongoing operational costs rather than the incremental cost related to new capital.