Question

7. Baldwin Inc. wants to determine the optimal capital structure that will maximize the value of the company. Various capital structures have been analyzed as follows: What optimal capital structure do you recommend for Baldwin Inc. and why?

Debt	Equity	WACC	ROE
0%	100%	15.80%	4.60%
20%	80%	12.50%	4.80%
30%	70%	10.50%	5.80%
40%	60%	9.20%	6.10%
50%	50%	12.30%	8.20%
60%	40%	8.50%	15.30%
70%	30%	12.85%	10.10%
80%	20%	13.50%	12.00%
100%	0%	14.00%	13.60%

Answer 1

Of the given capital structure alternatives, the higherst ROE is 15.30% at the combination of 60% debt and 40% equity. Further the WACC is also the lowest at this level. WACC is the weighted average cost of capital and therefore, represents the required return by the capital providers and is the cost to the company. Highest ROE and lowest WACC is the optimal capital structure for the company. All other alternatives have higher WACC and lower ROE which makes them sub standard in comparison to 60% debt & 40% Equity structure.