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Mountain Groves has an unlevered cost of capital of 13.2 percent, a cost of debt of 8.3 percent, and a tax rate of 21 percent. What is the target debt-equity ratio if the targeted cost of equity is 14.5 percent?

Respuesta :

Answer: D/E ≥ 0.3358

Explanation:

Given that,

Unlevered cost of capital = 13.2 %

Cost of debt = 8.3 %

Tax rate = 21 %

Targeted cost of equity = 14.5 %

D/E = target debt-equity ratio

Targeted cost of equity ≥ Unlevered cost of capital + (Unlevered cost of capital - Cost of debt) × D/E × (1 - Tax rate)

                             14.5% ≥ 13.2% + (13.2% - 8.3%) × D/E × (1 - 21%)

                             0.013 ≥ 0.03871 × D/E

                                D/E ≥ 0.3358

Therefore, the target debt-equity ratio is D/E ≥ 0.3358.

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