6. Determining the optimal capital structure Aa Understanding the optimal capital structure Review this situation: Universal Exports Inc. is trying to identify its optimal capital structure. Universal Exports Inc. has gathered the following financial information to help with the analysis Debt Ratio Equity Ratio EPS DPS Stock Price 30% 40% 50% 60% 70% 70% 60% 50% 40% 30% 1.55 0.34 22.35 1.67 0.45 24.56 1.72 0.51 25.78 1.78 0.57 27.75 1.84 0.62 26.42 Which capital structure shown in the preceding table is Universal Exports Inc.'s optimal capital structure? Debt ratio-30%; equity ratio-70% Debt ratio-40%; equity ratio-60% Debt ratio-70%; equity ratio-30% Debt ratio-50%; equity ratio-50% Debt ratio-60%; equity ratio-40% Consider this case: Globex Corp. is an all-equity firm, and it has a beta of 1, It is considering changing its capital structure to 70% equity and 30% debt. The firm's cost of debt will be 10%, and it will face a tax rate of 35% What will Globex Corp.'s beta be if it decides to make this change in its capital structure? Now consider the case of another company U.S. Robotics Inc. has a current capital structure of 30% debt and 70% equity. Its current before-tax cost of debt is 10%, and its tax rate is 35%. It currently has a levered beta of 1.10. The risk-free rate is 3.5%, and the risk premium on the market is 8% U.S. Robotics Inc. is considering changing its capital structure to 60% debt and 40% equity. Increasing the firm's level of debt will cause its before-tax cost of debt to increase to 12%. Use the Hamada equation to unlever and relever the beta for the new level of debt. What will the firm's weighted average cost of capital (WACC) be if it makes this change in its capital structure? the WACC and The optimal capital structure is the one that Higher debt levels the firm's stock price. the firm's risk. Consequently, higher levels of debt cause the firm's cost of equity to Axis Chemical Co. has found that its expected EPS is maximized at a debt ratio of 45%. Does this mean that Axis Chemical Co.'s optimal capital structure calls for 45% debt? Yes No