Question

how would estimated average cost of capital(5%) differ if a recession were to occur?

Answer 1

Answer-

The estimated Cost of Capital or Weighted average Cost of Capital (WACC) is calculated as

WACC = Wt of equity in capital structure x Cost of equity + Wt of debt in capital structure x Cost of debt x (1 - tax rate)

In the phase of approaching recession the cost of capital would increase as the chances of default increases and the capital is not easily available.
The cost of debt and cost of equity raises as the equity holders require more return on equity to compesate for the risk involved as during recession the chances that there will be default on debt which increases the cances that there will be erosion in the value of wealth of the equity holders.
The other factor will be the company's credit rating by rating agencies like S&P or Moody's or Fitch on its overall performance rating or its existing debt ratings.
The cost of capital being 5 % as mentioned in the question is likely to increase by 1-2% points ie 6-7 % which is highely likely given the impact of the recession effect on the economy.
Therefore the WACC or cost of capital increases as the economy heads towards recession due to tough market conditions.