Understanding the optimal capital structure Review this situation: Transworld Consortium Corp. is trying to identify its optimal capital structure. Transworld Consortium Corp. has gathered the following financial information to help with the analysis. Which capital structure shown in the preceding table is Transworld Consortium Corp.'s optimal capital structure? Debt ratio = 60%; equity ratio = 40% Debt ratio = 70%; equity ratio = 30% Debt ratio = 50%; equity ratio = 50% Debt ratio = 30%; equity ratio = 70% Debt ratio = 40%; equity ratio = 60% Consider this case: Globo Chem Co. currently has a capital structure consisting of 30% debt and 70% equity. However, Globo-Chem Co.'s CFO has suggested that the firm increase its debt ratio to 50%. The current risk-free rate is 3.5%, the market risk premium is 7.5%, and Globo-Chem Co.'s beta is 1.15. If the firm's tax rate is 40%, what will be the beta of an all-equity firm if its operations were exactly the same?_____ 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 6%, and its tax rate is 40%. It currently has a levered beta of 1.15. The risk-free rate is 3.5%, and the risk premium on the market is 7.5%. 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 8%. Use the Hamada equation to unlever and reliever 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 optimal capital structure is the one that _____the WACC and ______the firm's stock price. Higher debt levels ____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? No Yes