- CFA Exams
- CFA Level I Exam
- Study Session 10. Corporate Finance (1)
- Reading 33. Cost of Capital
- Subject 1. Cost of Capital

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**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?

B. 16%

C. 15%

A. 13%

B. 16%

C. 15%

Correct Answer: C

14 = 4 + 2/3X

10 = 2/3*X

X = 15

14 = 1/3(12) + 2/3(X)

14 = 4 + 2/3X

10 = 2/3*X

X = 15

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**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 |