According to the material, which approach should the WACC calculation base on?

According to the material, which approach should the WACC calculation base on?

• A. Target capital structure
• B. Current capital structure only
• C. Peer group average
• D. Historical cap structure

Answer: (A)

The WACC should be based on the target capital structure because you want the discount rate to reflect the long-run financing policy the firm plans to maintain when funds are invested and repaid. Using the target mix aligns the cost of capital with the expected financing plan, ensuring the rate mirrors how the project will actually be funded over its life. Relying on the current structure can misstate the cost if leverage is temporary, and using peer averages or historical structure ignores the firm’s own policy and future plans, which can bias the WACC. So, using the target capital structure provides a more accurate and appropriate discount rate for evaluating investments.

The WACC should be based on the target capital structure because you want the discount rate to reflect the long-run financing policy the firm plans to maintain when funds are invested and repaid. Using the target mix aligns the cost of capital with the expected financing plan, ensuring the rate mirrors how the project will actually be funded over its life. Relying on the current structure can misstate the cost if leverage is temporary, and using peer averages or historical structure ignores the firm’s own policy and future plans, which can bias the WACC. So, using the target capital structure provides a more accurate and appropriate discount rate for evaluating investments.