CFA Practice Question

There are 233 practice questions for this study session.

CFA Practice Question

A firm has a debt-to-equity ratio of .50. Its cost of debt is 12%. Its overall cost of capital is 14%. What is its cost of equity if there are no taxes or other additional costs?

A. 13%
B. 16%
C. 15%
Correct Answer: C

14 = 1/3(12) + 2/3(X)
14 = 4 + 2/3X
10 = 2/3*X
X = 15

User Contributed Comments 25

User Comment
kalps The answer is wrong, where have they got 1/3 from - this is meant to be weighting which is given as 1/2 in the question the correct answer is B.
tinku D/E is 1/2 ; D/V=1/3
gjwhite (debt/equity)=1/2, therefore there is twice as much equity as debt: Ws = 2Wd and if we assume that Wps=0 (no preferred stock) then we have: Wd + 2Wd = 1 => Wd=1/3.
LogicMan so I assume the answer is correct.
morpheus918 Yes, it is correct.
Will1868 I read the debt/equity ratio as .5 or 50% Debt 50% Equity in the capital strucure.??? Where does 1/3 come from?
rockeR Debt/equit=0.5, assume Debt is $100 then equity should be $200 becoz the ratio is 0.5
Now, we know the V(E+D)=300 therefore,
12%*(100/300)+Re*(200/300)=14%
Hence, Re should be 15%
It does not matter what you assume for the debt value
evica Why 1/3 to 2/3 when D/E ratio is 0.5? Shouldn't it be 1/2?
db28luke The answer is correct. I got it wrong at first.
sarath This one tricked me...but then 15 is the correct answer..
tagr debt/equity = 0.5 = 1/2, so debt = 1, equity = 2
total capital = debt + equity = 1 + 2 = 3
debt = 1/3 of total capital
equity = 2/3 of total capital
debt/equity = (1/3)/(2/3) = 1/2 = 0.5
surob easy question: D/E - 0.5 not D/Total capital
rivers thank you tagr
DonAnd Here goes:- D/E=0.5
=>weight of debt is D/E/(1+D/E)=1/3
=>weight of equity = 2/3
use the WACC formula and you get your answer
erinelize This is a tricky question. I got it wrong because I assumed the weight was 50% debt and 50% equity but the ratio debt/equity is .50. Be sure to read the questions carefully!
shiva5555 What about taxes? Is this already figured into cost of debt?
hoyleng shiva : this question ignored taxes.
Skrills this "kalps" character needs to give up. seems like they post a dumb comment on every other question
moneyguy .14 = (.33)(.12) + (.67)(X)

X = .1499
johntan1979 Answer is correct.

D/E = 0.5, so D = 1/2 E

D and E ==> 3 parts

Weightage is correct ==> 1/3 D + 2/3 E
J0rdanl D/E = .5 so .5 debt for every 1.00 of equity.
solve for weights: Wd: .5/(.5+1.00)
We: 1.00/(.5+1.00) this is where the 1/3 and 2/3 come from
vish251090 D/E = .5 ( .5/1 = .5)
total capital is .5(debt) + 1(equity) =1.5
weight of D = .5/1.5
weight of E =1/1.5
khalifa92 easy beasy

14 = 1/3*0.12 + 2/3x
14 = 4 + 2/3x
14 - 4 = 2/3x
10 = 2/3x
10*2/3 = x
15 = x
khalifa92 10*3/2 = x
15 = X
pigletin this is a math problem
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