Diamonds plc estimates its costs of debt and equity for different capital structures as follows:

% Debt % Equity kd ke WACC

– 100 – 20% ?

25 75 8% 24% ?

50 50 8% 32% ?

75 25 8% 56% ?

Required

(i) What theory of capital structure is portrayed? (Complete the WACC column.)

(ii) Restate the table allowing for taxation of corporate profits (hence, tax relief on debt) at 30 per cent. Assume Diamonds plc always has sufficient taxable capacity to exploit the tax shield.

Identify the relevant theory of capital structure.