Hey everyone; reasonably happy studying to you!
Quick question, how do you go from a D/E of 25% to a weighting of 20% debt for the WACC?
I never figured this out at level one, hoping someone could explain it to me. I’m sure it’s dead simple.
Hello,
Say you have $25mn in Debt and $100mn in Equity. That gives you a D/E of 25%. Debt as a % of total capital would therefore be $25mn out of $125 or 20%.
You use Debt/Total Capital for WACC weightings. Total capital = debt + equity.
An example:
You have 100 Debt. 200 Equity
The D/E ratio is 100/200 or .5
However Debts overall weighting in the pool is 100/(200+100) = 33%.
Therefore you weight Debt by 33% and equity by 66%.
When they only give you D/E on the test and not the specific debt to equity values, do the following to find the % of debt for WACC:
(D/E Ratio) / (D/E Ratio + 1).
WACC = 20% = 20/100
Debt = 20
Equity = 100- 20 = 80
D/E = 20/80 = 25%
^That’s how I do it.
Seems like I have a different way as well, so might as well add it.
If given a D/E of 0.60, then this is the same as quoting 0.60/1
So D = 0.6 and E =1, which is saying the sum of D and E is 1.60
so debt weighting in the wacc will be 0.6/1.6 and likewise the equity weighting will be 1/1.6