A saucer-shaped or U-shaped weighted average cost of capital curve results from the tax deductibility of interest,which results in the downward slope,followed by the recognition of potential financial distress costs,that cause the upward slope as the amount of debt ratio increases.

Question

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The tax deductibility of interest results in the downward slope of the weighted average cost of capital curve, while potential financial distress costs cause the upward slope. This creates a U-shaped or saucer-shaped curve.

A Saucer-Shaped or U-Shaped Weighted Average Cost of Capital Curve