Nico Trading Company Must Choose Its Optimal Capital Structure

question 198

Multiple Choice

Nico Trading Company must choose its optimal capital structure. Currently, the firm has a 20 percent debt ratio and the firm expects to generate a dividend next year of $5.44 per share. Dividends are expected to remain at this level indefinitely. Stockholders currently require a 12.1 percent return on their investment. Nico is considering changing its capital structure if it would benefit shareholders. The firm estimates that if it increases the debt ratio to 30 percent, it will increase its expected dividend to $5.82 per share. Again, dividends are expected to remain at this new level indefinitely. However, because of the added risk, the required return demanded by stockholders will increase to 12.6 percent. Based on this information, should Nico make the change?

• A) Yes.
• B) No.
• C) It's irrelevant.
• D) Not enough information.

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Definitions:

Grid Technique

A method used for decision-making or spatial analysis that involves dividing a space into a grid for systematic analysis.

Nonlinear Transportation Rates

Transportation pricing that does not increase at a constant rate as distance or shipment size increases.

Raw Materials Sources

The origins or suppliers of the unprocessed materials which are used in manufacturing products.

Finished Goods Markets

Markets that deal in products that have completed the manufacturing process and are ready for sale or consumption.