Understanding the optimal capital structure Review this situation: Universal Exp

Question

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 3090 40% 5090 60% 70% 70% 60% 50% 4090 30% 1.55 0.34 1.67 0.45 1.72 0.51 1.78 0.57 1.84 0.62 22.35 24.56 25.78 27.75 26.42 Which capital structure shown in the preceding table is Universal Exports Inc.'s optimal capital structure? Debt ratio-40%; equity ratio-60% o Debt ratio-50%; equity ratio 50% o Debt ratio-70%; equity ratio-30% o Debt ratio-60%; equity ratio-40% Debt ratio-30%; equity ratio-70% Consider this case: Globex Corp. currently has a capital structure consisting of 35% debt and 65% equity. However, Globex Corp.'s CFO has suggested that the firm increase its debt ratio to 50%. The current risk-free rate is 2.5%, the market risk premium is 7%, and Globex Corp.'s beta is 1.15

Explanation / Answer

As per rules I will answer the first 4 sub parts of this question

1: Debt ratio 60%, Equity ratio 40%

(Since the share price is highest in this case)

2: Unlevered beta= Levered beta/ (1+(1-Tax)*D/E)

=1.15/ (1+(1-0.35)*35/65

=0.85

3: Unlevered beta= Levered beta/ (1+(1-Tax)*D/E)

=1.15/(1+(1-0.35)*30/70)

=0.90

4: Unlevered beta= Levered beta/ (1+(1-Tax)*D/E)

=1.15/(1+(1-0.35)*60/40)

=0.58

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