Question

Financing Hook Industries' capital structure consists solely of debt and common equity. It can issue debt at rd = 8%, and its common stock currently pays a $4.00 dividend per share (D0 = $4.00). The stock's price is currently $25.50, its dividend is expected to grow at a constant rate of 7% per year, its tax rate is 40%, and its WACC is 14.90%. What percentage of the company's capital structure consists of debt? Round your answer to two decimal places. %

Answer 1

Required return of common stock=(D1/Current price)+Growth rate

=(4*1.07)/25.5+0.07

=0.237843137

Cost of debt after tax=8(1-0.4)=0.048

Let debt be $x

Equity be $y

Total=$(x+y)

WACC=Respective costs*REspective weights
0.149=(x/(x+y)*0.048)+(y/(x+y)*0.237843137

0.149(x+y)=0.048x+0.237843137y

0.149x+0.149y=0.048x+0.237843137y

Hence x=(0.237843137-0.149y/(0.149-0.048)

=0.879635022y

Total =x+y

=1.879635022y

Hence weight of debt=0.879635022y/1.879635022y

which is equal to

=46.80%(Approx).