Question

4. Determining the optimal capital structure Review the following situation: Transworld Consortium Corp. is trying to identify its optimal capital structure. Transworld Consortium Corp, has gathered the following financial information to help with the analysis. Debt Ratio (%) 30 Equity Ratio (%) 70 EPS (5) 1.25 DPS ($) 0.55 Stock Price ($) 36.25 40 60 1.40 0.60 37.75 50 50 1.60 0.65 39.50 60 40 1.85 0.75 38.75 70 30 1.75 0.70 38.25 Which capital structure shown in the preceding table is Transworld Consortium Corp.'s optimal capital structure? O Debt ratio -70%; equity ratio -30% O Debt ratio -30%; equity ratio -70% O Debt ratio = 40%; equity ratio = 60% O Debt ratio = 60%; equity ratio = 40% O Debt ratio -50%; equity ratio = 50% Axis Chemical Co. has found that its expected EPS is maximized at a debt ratio of 45%. Does this mean that Audls Chemical Co.'s optimal capital structure calls for 45% debt?

Answer 1

1. The aim of any firm is to maximize the shareholders' value which can be done by maximizing the earnings per share. We observe that this motive is achieved when the debt ratio is 60%. Hence, option D is correct.

2. Yes because it is at this debt ratio that the EPS is maximized.