Phil\'s Carvings, Inc. wants to have a weighted average cost of capital of 6.2 p
ID: 2753826 • Letter: P
Question
Phil's Carvings, Inc. wants to have a weighted average cost of capital of 6.2 percent. The firm has an aftertax cost of debt of 4.0 percent and a cost of equity of 8.0 percent. What debt-equity ratio is needed for the firm to achieve their targeted weighted average cost of capital?
Options:
0.41
1.22
1.82
2.22
0.82
Phil's Carvings, Inc. wants to have a weighted average cost of capital of 6.2 percent. The firm has an aftertax cost of debt of 4.0 percent and a cost of equity of 8.0 percent. What debt-equity ratio is needed for the firm to achieve their targeted weighted average cost of capital?
Explanation / Answer
WACC = Wd×Rd×(1-t)+We×Ke
W is weights of respective portfolios
R is return on respective portfolios
Wd+We = 1
6.2% = Wd×4%+(1-Wd)×8%
0.062 = Wd×0.04+0.08-0.08×Wd
Wd = 0.45
We = 0.55
Debt equity ratio:
= Debt÷Equity
= 0.45÷0.55
= 0.82