If a firm is unlevered and has a cost of equity capital of 12%,what would the cost of equity be if its debt-equity ratio became 2? The expected cost of debt is 8%.
A) 14.0%
B) 14.67%
C) 16.0%
D) 20.0%
E) None of these.

Question

Quizplus · Accepted Answer

The cost of equity for a levered firm can be calculated using the Modigliani-Miller Proposition II formula: Cost of Equity = Cost of Unlevered Equity + (Debt/Equity) * (Cost of Unlevered Equity - Cost of Debt). Substituting the given values: 12% + 2 * (12% - 8%) = 20%.

If a Firm Is Unlevered and Has a Cost of Equity