Question

Is there an easily identifiably debt-equity ratio that will maximize the value of a firm? Why or why not? Provide some examples in your decision.

Answer 1

Debt to Equity ratio = Total Debt/ shareholders capital.

Is there an easily identifiable debt-equity ratio that will maximize the value of a firm?

There is no such clearly identifiable debt to equity ratio.

The Typical debt to equity ratio must be less than 1 for most industries.
However, it changes from industry to industry. For an industry which is asset-heavy like automobiles, power generation the debt to equity of higher than 1 is considered normal. It has a typical debt to equity to be less than 2.5 (it should be compared with companies in the same industry to arrive at the figure - a changes from country to country).

For a capital heavy business like banks, non-banking financial corporations a very high debt to equity is acceptable. It is the nature of the business to take heavy debt.

The debt to equity ratio must be in check to the industry standards. The company should not take more debt than it can chew. Because many growth companies fail because of not able to service the debt.

Typical debt to equity ratio also changes taking economic conditions into consideration. If the economy is booming a higher debt to equity is acceptable. whereas, when the economy is the same debt becomes a curse and destroys shareholders value. Hence a minimal debt to equity is expected during a recession.