Question

Bigelow has a levered cost of equity of 14.29 percent and a pretax cost of debt of 7.23 percent. The required return on the assets is 11 percent. What is the firm's debt-equity ratio based on MM Proposition II with no taxes

Answer 1

Answer:

Debt ÷ Equity = 0.87

Explanation:

Data given in the question

Leverage cost of equity = 14.29%

Pretax cost of debt = 7.23%

Required return on the asset = 11%

So by considering the above information, the formula to compute the firm debt equity ratio is

Return on equity = Return on asset + (Return on assets - cost of debt × Debt ÷ Equity

14.29% = 11% + (11% - 7.23%) × Debt ÷ Equity

14.29% = 11% + 3.77%  × Debt ÷ Equity

14.29% - 11% = 3.77% × Debt ÷ Equity

3.29% = 3.77% × Debt ÷ Equity

So Debt ÷ Equity = 0.87