Question

2. Does WACC increase monotonically when more debt is taken? Why?

Answer 1

No WACC does not increase monotonically. Debt has benefits in the form on tax shields because interest payments are tax deductible and debt is cheaper so effective cost of debt is less than cost of equity. Hence, initially increasing debt means lesser WACC. As higher debt means more risk, there is higher chance of bankruptcy so after a point, the benefits of debt are outweighed by the cost of financial distress. And then cost of debt rises and WACC starts rising.