Central Systems desires a weighted average cost of capital of 12 percent. The firm has a before-tax cost of debt of 5 percent and a cost of equity of 15.2 percent. What debt-equity ratio is needed for the firm to achieve its targeted weighted average cost of capital if the tax rate is 20%?
a. 0.67
b. 0.56
c. 0.60
d. 0.40
e. 1.78
After-tax cost of debt=5*(1-tax rate)
=5*(1-0.2)=4%
Let debt be $x
Equity be $y
Total=(x+y)
WACC=Respective cost*Respective weight
12=(x/(x+y)*4)+(y/(x+y)*15.2)
12*(x+y)=4x+15.2y
12x+12y=4x+15.2y
x=(15.2-12)y/(12-4)
=0.40 y
Hence debt-equity ratio=debt/equity
=0.40
Central Systems desires a weighted average cost of capital of 12 percent. The firm has a...
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