A firm that is worth $1 million and is financed with 30% risk-free debt and 70% equity grows in value to $1.5 million. What is its new debt-equity ratio?
A)25.0%
B)33.3%
C)20.0%
D)26.3%

Question

Quizplus · Accepted Answer

The firm's initial debt is $300,000 (30% of $1 million). As the firm grows to $1.5 million, assuming the debt remains constant, the equity becomes $1.2 million ($1.5 million - $300,000). The new debt-equity ratio is $300,000 / $1,200,000 = 25.0%.

A Firm That Is Worth $1 Million and Is Financed