Gr xii-bs-ch-9-s6
0 likes42 views
The document discusses factors that affect a company's capital structure. It identifies 14 key factors: cash flow position, interest coverage ratio, debt service coverage ratio, return on investment, cost of debt, tax rate, cost of equity, floatation costs, risk consideration, flexibility, control, regulatory framework, stock market conditions, and capital structure of other companies. Capital structure refers to the mix of a company's equity and debt funding. The factors help determine the optimal proportion of debt versus equity for a given company.
Gr xii-bs-ch-9-s6
- 2. Financial Management Grade XII Business Studies
- 3. Learning Objective • To analyse the factors affecting capital structure.
- 5. Capital Structure ➢Capital structure refers to the mix between owners and borrowed funds. These shall be referred as equity and debt. If it is greater than one, interest expenses will be high and if it is less than one, shareholders can be hopeful of getting something in case of liquidation. ➢It can be calculated as debt-equity ratio 𝒅𝒆𝒃𝒕 𝒆𝒒𝒖𝒊𝒕𝒚 ➢It can also be calculated as the proportion of debt out of the total capital i.e., 𝒅𝒆𝒃𝒕 𝒅𝒆𝒃𝒕 + 𝒆𝒒𝒖𝒊𝒕𝒚
- 7. cash flow=the total amount of money being transferred into and out of a business, especially as affecting liquidity.
- 9. Factors affecting the Choice of Capital Structure 1. Cash Flow Position: Cash flows must not only cover fixed cash payment obligations but there must be sufficient buffer also. 2. Interest Coverage Ratio (ICR): 𝑬𝑩𝑰𝑻 𝑰𝒏𝒕𝒆𝒓𝒆𝒔𝒕 If it is higher the company may fail to pay interest on loans. 3. Debt Service Coverage Ratio: Higher DSCR means high borrowing capacity. 𝑷𝒓𝒐𝒇𝒊𝒕 𝒂𝒇𝒕𝒆𝒓 𝑻𝒂𝒙 + 𝑫𝒆𝒑𝒓𝒆𝒄𝒊𝒂𝒕𝒊𝒐𝒏 + 𝑰𝒏𝒕𝒆𝒓𝒆𝒔𝒕 + 𝑵𝒐𝒏. 𝒄𝒂𝒔𝒉 𝒆𝒙𝒑 𝑷𝒓𝒆𝒇. 𝑫𝒊𝒗 + 𝑰𝒏𝒕𝒆𝒓𝒆𝒔𝒕 + 𝑹𝒆𝒑𝒂𝒚𝒎𝒆𝒏𝒕 𝑶𝒃𝒍𝒊𝒈𝒂𝒕𝒊𝒐𝒏
- 10. ICR
- 11. DSCR
- 12. DSCR
- 13. List of the Most Common Non-Cash Expenses • There are many types to watch out for, but the most common examples include: • Depreciation • Amortization • Stock-based compensation • Unrealized gains • Unrealized losses • Deferred income taxes • Goodwill impairments • Asset write-downs • Provisions and contingencies for future losses
- 14. Factors affecting the Choice of Capital Structure 4.Return on Investment: If ROI is higher, it can choose to use trading on equity to increase its EPS, i.e., its ability to use debt is greater. 5. Cost of debt: A firm’s ability to borrow at a lower rate increases its capacity to employ higher debt.
- 16. Factors affecting the Choice of Capital Structure • 6. Tax Rate: Since interest is tax deductible, a higher tax rate makes debt relatively cheaper. • 7. Cost of Equity: If debt increases, cost of equity may go up sharply and share price may decrease inspite of increased EPS.
- 17. Factors affecting the Choice of Capital Structure • 8. Floatation Costs: If public issue of shares and debentures costs more, a loan may be cheaper. • 9. Risk Consideration: If a firm’s business risk is lower, its capacity to use debt is higher and vice-versa. • 10. Flexibility: To maintain flexibility, it must maintain some borrowing power to take care of unforeseen circumstances.
- 19. Factors affecting the Choice of Capital Structure • 11. Control: A public issue of equity make it vulnerable to takeover. • 12. Regulatory Framework: The relative ease of SEBI guidelines for issue of shares and bank norms for loans has a bearing upon the choice of the source of finance.
- 20. Factors affecting the Choice of Capital Structure • 13. Stock Market Conditions: Shares are better if its bullish whereas debt is better if its bearish. • 14. Capital Structure of other Companies: Justification must be there if the company follows or deviates from debt-equity ratios of other companies in the same industry.
- 21. Review Explain the factors affecting capital structure.
- 23. Recapitulation Cash Flow Position, Interest Coverage Ratio (ICR), Debt Service Coverage Ratio, Return on Investment, Cost of debt, Tax Rate, Cost of Equity, Floatation Costs, Risk Consideration, Flexibility, Control, Regulatory Framework, Stock Market Conditions and Capital Structure of other Companies are the factors affecting capital structure.