Skip to content

IAI Actuarial Core Principles · Business Finance · Capital structure and dividend policy

Which statement about the weights used in a company's WACC is most appropriate under standard business finance theory?

Market values should be used as weights, since WACC reflects the returns investors currently require on the capital supplied. Book values reflect historic accounting figures and can misstate the true proportions of debt and equity in the firm's financing.

  1. ABook values of each source should be used because they are audited
  2. BMarket values of each source should be used because they reflect current investor required returnsCorrect
  3. COnly equity should be weighted because debt is fixed
  4. DWeights should be based on the historic cost of issuing each security
  5. Weights should be equal across all sources of capital

Explanation

WACC is meant to reflect the current opportunity cost of funds to investors, so the current market values of equity and debt are the appropriate weights. Book values reflect past issue prices and can differ widely from market values, which makes option 0 wrong.

Did you get it right without looking?

One question tells you little. A timed set on Capital structure and dividend policy shows your real accuracy, how long you take and where you lose marks.

Practise Capital structure and dividend policyFree diagnostic mock

More Capital structure and dividend policy questions