Solution 12/8/2012
Chapter: 15
Problem: 12
Input Data
Risk-free rate 4.5%
Market risk premium 5.5%
Unlevered beta 0.8
0% 6.0% Tax rate 40.0%
Fill in formulas in the yellow cells to find the optimum capital structure.
Debt/Value Equity/Value
Debt/Equity
A-T Cost of
Levered Cost of
Ratio (wd) Ratio (ws)
Ratio (wd/ws)
Debt (rd)Beta Equity WACC
0% 1.0 0.00 3.60% 0.80 8.90% 8.90%
10% 0.9 0.11 3.66% 0.85 9.19% 8.64%
20% 0.8 0.25 4.20% 0.92 9.56% 8.49%
Percent
Financed
with Debt
(wd)
Before-tax
Cost Debt
(rd)
Reacher Technology has consulted with investment bankers and determined the interest rate it
would pay for different capital structures, as shown below. Data for the risk-free rate, the market
risk premium, an estimate of Reacher’s unlevered beta, and the tax rate are also shown below.
Based on this information, what is the firm’s optimal capital structure and what is the weighted
average cost of capital at the optimal structure?