Question

weighted average cost of capital of 11.5 percent. The firm has a before-tax cost of debt of 7.8 percent and a cost of equity of 13.95 percent. The corporate tax rate is 34%. What debt-equity ratio is needed for the firm to achieve its targeted weighted average cost of capital

Answer 1

38.57%

Step-by-step explanation:

The computation of debt to equity ratio is shown below:

But before that we need to find out the debt which is

Let us assume the debt be X

Weighted Average cost of capital is

= [Before tax cost of Debt × (1 - tax rate) × X] + [Cost of equity × (1 - X)]

11.5% = [7.8% * (1 - 0.34) * X] + [13.95% * (1 - X)]

11.5% = 5.148% X + 13.95% - 13.95% X

8.802% X = 2.45%

X = 27.83%.

Now

Debt to equity is

= 27.83% ÷ (1 - 0.2783)

= 38.57%