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UB is examining its capital structure with the intent of arriving at an optimal debt ratio. It currently has no debt and has a beta
UB is examining its capital structure with the intent of arriving at an optimal debt ratio. It currently has no debt and has a beta of 1.5. The riskless interest rate is 9%. Your research indicates that the debt rating will be as follows at different debt levels:
| D/(D+E)(%) | Rating | Interest Rate |
| 0 | AAA | 10 |
| .10 | AA | 10.5 |
| .20 | A | 11 |
| .30 | BBB | 12 |
| .40 | BB | 13 |
| .50 | B | 14 |
| .60 | CCC | 16 |
| .70 | CC | 18 |
| .80 | C | 20 |
| .90 | D | 25 |
The firm currently has 1 million shares outstanding at $20 per share (tax rate=40%).
A. What is the optimal debt ratio?
B. Assuming that the firm restructures by repurchasing stock with debt, what will the value of the stock be after the restructuring? (with 5% growth in perpetuity)
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