Greater the business risk, lower is optimal debt ratio.
Not understanding this.
Higher the business risk --> Higher will be the volatility in Sales, Earnings etc. --> Hence, Less Stability of Cash Flows & the ability to pay back debt. Therefore, typically debt on the balance sheet should be low for such firms & that accounts for low optimal debt ratio.
Financing through debt requires the business to generate stable cash flows as debt is an obligation
When business risk is higher, the cost of debt is higher.
The higher the cost of debt, the less debt you’ll have in the optimal capital structure.