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desires a weighted average cost of capital of 9 percent. The firm has an after-tax cost...

desires a weighted average cost of capital of 9 percent. The firm has an after-tax cost of debt of 5 percent and a cost of equity of 11 percent. What debt-equity ratio is needed for the firm to achieve its targeted weighted average cost of capital?

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Answer #1

1. Total weight of debt and equity = 100%

Weight of debt + Weight of Equity = 100%

Thus, Weight of Debt = 100% - Weight of equity

2. WACC = weight of debt * Cost of debt + weight of equity * cost of equity

9% = (100% - weight of equity) * 0.05 + weight of equity * 0.11

9% = 0.05 - 0.05 * Weight of equity + weight of equity * 0.11

9% = 0.05 + 0.06 * Weight of equity

Weight of equity = 4% / 0.06

Weight of equity = 66.67%
Weight of debt = 100% - weight of equity = 100% - 66.67% = 33.33%

Proof =

WACC = weight of debt * Cost of debt + weight of equity * cost of equity

WACC = 0.3333 * 5% + 0.6667 * 0.11

WACC = 7.33% + 1.67%
WACC = 9.00%

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