FINANCIAL MANAGEMENT TEST II
companies need to align their capital structure with their financial goals, such as growtj, profitability, and risk management.
Financial Goals
such as interest rates and investor sentiment, can influence the cost of debt and equity financing.
Market Conditions
The specific circumstances of a company, including its industry, size, and profitability, play a role in determining the optimal capital structure.
Company Specifics
states that the market value of a company is correctky calculated as the present value of its future earnungs and its underlying assest, and is independent of uts capital structure.
Modigliani-Miller Theorem
suggests that companies balance the costs and benefits of debt and equity financing to dtermine their optinals capital structure.
Trade-off Theory
is a concept in corporate finance thate explains how companies prioritize their sources of financing.
Pecking Order Theory
companies prefer to use retained earnings (internal funds) before seeking external financing.
Internal Financing First
If external financing is necessary, companies prefer debt over equity.
Debt Over Equity
Equity financing is considered the last option due to its higher costs and the potential negative signal it sends to the market.
Equity as a Last Resort
Managers typically have more information about the company performance and prospects than external investors.
Asymmetric Information
The cost associated with issuing new equity, such as underwriting fees and the pitential for dtock proce dillution, make it the least preferred option.
Cost Considerations
is the mix of debt and equity financing a company uses to fund its operation.
Capital Structure
involves borrowing money from lenders, typically with interest payments and a fixed maturity date.
Debt
involved issuing share of stock to investors, who become part owners of the company and receive dividends.
Equity
is the rate of return a company must earn on its investments to satisfy its investors.
Cost of Capital
influenced by its debts levels, which can impact its credit rating and its ability to access capital.
Risk Profile
directly impacted by the cost of capital and the level of debt financing.
Profitability
different industries have different debt to equity ratios, reflecting their risk profiles and financing needs.
Industry
More profitable companies cab typically access debt financing at lower costs, as lenders perceive them as less risky.
Profitability
Fast-growing companies may need more capital to funds their expansion potentially leading to higher debt levels.
Growth Prospects