Question

Beranek Corp has $855,000 of assets (which equal total invested capital), and it uses no debt—it is financed only with common equity. The new CFO wants to employ enough debt to raise the total debt to total capital ratio to 40%, using the proceeds from borrowing to buy back common stock at its book value. How much must the firm borrow to achieve the target debt ratio?

Answer 1

To achieve the target debt ratio the firm must borrow $342,000

Step-by-step explanation:

Data provided in the question:

Total invested capital = $855,000

Required Debt to total capital ratio = 40%

Now,

The Debt to total capital ratio is calculated as:

= [ Debt ÷ Total invested capital ] × 100%

thus,

according to the question

40% = [ Debt ÷ $855,000 ] × 100%

or

Debt ÷ $855,000 = 0.40

or

Debt = 0.40 × $855,000

or

Debt = $342,000

Hence,

To achieve the target debt ratio the firm must borrow $342,000