optimum capital structure

In theory the value of a firm is determined by its future expected earnings and by its cost of finance. According to Modigliani and Miller, then if there is no tax the WACC will stay the same regardless of the capital structure and therefore there is no optimal level of gearing. However with tax, there is an extra benefit associated with debt borrowing and therefore with higher gearing the WACC will fall. A lower WACC will increase the market value of the firm. All of this is explained in detail in my free lectures covering Chapter 19 of our free lecture notes. The lectures are a complete free course for Paper FM and cover everything needed to be able to pass the exam well.

You are not asked to 'apply' any of the theories in the exam. You are asked only to write about them. The traditional theory does not assume that the cost of debt always reduces the WACC, because the cost of equity increases due to higher gearing. I assumes that there will be an optimal level of gearing which is when the WACC is at a minimum. This is, again, all explained in my free lectures and you cannot expect me to type out all my lectures here :-)

Based on the lecture I had just watch, is the optimal capital structure is 60 (equity) : 40 (debt) right? Thank you Sir John

to acquire the lowest possible minimum WACC

I assume that you are referring to the first of the three examples which is on the traditional theory (the other two examples illustrate Modigliani and Millers' theory). In which case yes - of the 5 levels of gearing considered then 60:40 would be the best. However again appreciate that you cannot be asked calculations - only to discuss (only 50% of the exam involves calculations) - and these examples are only to illustrate the theories.

Thank you Sir John, I finally understood this topic well. Wish you well.