A firm has an expected return on equity of 16% and an after-tax cost of debt of 8%.What debt-equity ratio should be used in order to keep the WACC at 12%?
A) .50
B) .75
C) 1.00
D) 1.50

Question

Quizplus · Accepted Answer

To find the debt-equity ratio that keeps the WACC at 12%, use the formula: WACC = (E/V) * Re + (D/V) * Rd * (1-T). Assuming no taxes for simplicity, solve for D/E: 12% = (E/V) * 16% + (D/V) * 8%. With D/E = 1, the weights are equal, making WACC = 12%.

A Firm Has an Expected Return on Equity of 16