Beranek Corp has $720,000 of assets, and it uses no debt--it is financed only with common equity. The new CFO wants to employ enough debt to raise the debt/assets ratio to 40%, using the proceeds from borrowing to buy back common stock at its book value. How much must the firm borrow to achieve the target debt ratio?
A) $273,600
B) $288,000
C) $302,400
D) $317,520
E) $333,396

Question

Quizplus · Accepted Answer

Given, Total Assets (T.A) = $720,000

Target Debt Ratio (D/A) = 40%

Equity Ratio (E/A) = 60% = (Equity / Total Assets)

Since the firm is only financed by equity, we have Equity = Total Assets = $720,000

Let us assume that the amount of debt to be borrowed is D.

Now, Target Debt Ratio (D/A) = (D / D+E) = 40% (where D+E = Total Assets)

=> D / 720,000 + D = 0.40

=> D = $288,000

Therefore, the amount the firm must borrow to achieve the target debt ratio is $288,000.

Beranek Corp Has $720,000 of Assets, and It Uses No