Different Financial Structures
Not what you're looking for?
Different companies choose different financial structures (debt vs. equity). Is there a preferred model? What are the positives/negatives of a higher % of each?
Any answer given will be used to understand the question and will be reworded.
Purchase this Solution
Solution Summary
1260 words explain the benefits of different financial structures in various percentages.
Solution Preview
Capital structure means mix composition of debt and equity in the organization. It affects the cost of capital of the organization. A firm's long-term success depends upon the firm's investments earning a sufficient rate of return. This sufficient or minimum rate of return necessary for a firm to succeed is called the cost of capital.
The cost of capital can also be viewed as the minimum rate of return required keeping investors satisfied. Thus it is used to know the rate of return expected by the investors.
Cost of capital (WACC)=
(Cost of Equity x Proportion of equity from capital)+ (Cost of debt x Proportion of debt from capital)+ (Cost of Preference share x Proportion of preference share from capital).
Equity includes retained earnings and the cost of R/E is taken at cost of equity. Cost of equity capital is the opportunity return from an investment with same risk as the company has. Cost of equity is usually defined with Capital asset pricing model (CAPM). The estimation of cost of debt is naturally more straightforward, since its cost is explicit. Cost of debt includes also the tax shield due to tax allowance on interest expenses. In case of preference shares, the dividend rate can be taken as the cost since it is the amount, which the company intends paying against preference shares. As is the case of debt the issue expenses or discount/premium on issue has also to be taken into account.
Alternative capital structure:
Option 1
Only equity
This structure will be costly as the cost of debt is cheaper than cost of equity
Advantages
1) Permanent Capital: It need not be paid back
2) Borrowing Base: It can be used to trade on equity
3) Dividend Payment Discretion: The payment of dividend is in the hands of management
4) No Mortgage
Unlike debt this does n't involve the mortgage. Thus assets are free of any encumbrance.
5) Wealth creation tool
This can be used to create wealth for employees and ...
Purchase this Solution
Free BrainMass Quizzes
Transformational Leadership
This quiz covers the topic of transformational leadership. Specifically, this quiz covers the theories proposed by James MacGregor Burns and Bernard Bass. Students familiar with transformational leadership should easily be able to answer the questions detailed below.
Motivation
This tests some key elements of major motivation theories.
Writing Business Plans
This quiz will test your understanding of how to write good business plans, the usual components of a good plan, purposes, terms, and writing style tips.
Cost Concepts: Analyzing Costs in Managerial Accounting
This quiz gives students the opportunity to assess their knowledge of cost concepts used in managerial accounting such as opportunity costs, marginal costs, relevant costs and the benefits and relationships that derive from them.
Business Processes
This quiz is intended to help business students better understand business processes, including those related to manufacturing and marketing. The questions focus on terms used to describe business processes and marketing activities.