Capital structure refers to the combination or mix of debt and equity which a company uses to finance its long term operations. It is decided that what portion of the total required capital be raised from shares and what portion from debentures. Optimal capital structure implies the most economical and safe ratio between various types of securities.
Capital structure refers to the combination or mix of debt and equity which a company uses to finance its long term operations. It is decided that what portion of the total required capital be raised from shares and what portion from debentures. Optimal capital structure implies the most economical and safe ratio between various types of securities.
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Capital structure refers to the combination or mix of debt and equity which a company uses to finance its long term operations. It is decided that what portion of the total required capital be raised from shares and what portion from debentures. Optimal capital structure implies the most economical and safe ratio between various types of securities.
Direitos autorais:
Attribution Non-Commercial (BY-NC)
Formatos disponíveis
Baixe no formato PPTX, PDF, TXT ou leia online no Scribd
to finance its long term operations. Capital in this context refers to the permanent or long term financing arrangements of the company. Debt capital, therefore, is the company·s long term borrowings and equity capital is the long term funds provided by the shareholders or owners of the company. In other words, in capital structure it is decided that what portion of the total required capital be raised from shares and what portion from debentures. V Capitalization is quantitative concept indicating the total amount of long term finance required to carry on the business. Capital structure, on the other hand, is the pattern of financing and is the process which comes after determining capitalization. It involves the issue of different types of securities to raise the total amount of funds required and the relative proportion of each type of security. V Capital structure is the permanent financing of the company representing long term sources of capital i.e. owner·s fund and long term debt but excludes short term credit. Financial structure refers to the way, the company·s assets are financed. It is the entire left hand side of the balance sheet which represents all the long term and short term sources of capital. Thus, capital structure is only a part of financial structure. V There are two types of factors which affects the capital structure of a company. They are: 1. Internal factors. 2. External factors. 1. Size of the business. 2. Nature of the business. 3. Regularity and certainty of income. 4. Assets structure. 5. Age of the firm. 6. Operating ratio. 7. Trading on equity. 1. Capital market conditions. 2. Nature of investors. 3. Statutory requirements. 4. Taxation policy. 5. Policies of financial institutions. 6. Cost of financing. 7. Seasonal variations. V The optimal or the best capital structure implies the most economical and safe ratio between various types of securities. It may be defined as that mix of debt and equity which maximizes the value of the company and minimizes the cost of capital. 1. Minimum cost of capital. 2. Minimum risk. 3. Maximum return. 4. Maximum control. 5. Simplicity. 6. Flexibility. 7. Alternative rules. V The point of indifference refers to that earnings before interest and tax (EBIT) level at which earnings per share (EPS) remains the same irrespective of difference alternatives of debt equity mix. At this level of EBIT, the rate of return on capital employed is equal to the cost of debt and this is also known as break even level of EBIT for alternative financial plans. 1. Net income theory. 2. Net operating income theory. 3. Traditional theory. 4. Modigliani miller theory. V This theory was propounded by David Durand and is also known as fixed Ke theory. According to this theory a firm can increase the value of the firm and reduce the overall cost of capital by increasing the proportion of debt in its capital structure to the maximum possible extent. It is due to the fact that debt is, generally a cheaper source of funds. 1. The cost of debt is cheaper than the cost of equity. 2. Income tax has been ignored. 3. The cost of debt capital and cost of equity capital remain constant. V þnder NI Theory, the total value of a firm is computed by adding the market value of debt in the capitalized value of earnings available for equity shareholders. V Total value of firm= Market value of equity + Market value of debt. V This theory was also propounded by David Durand which is quite opposite to the net income theory. According to this theory, the total market value of the firm is not affected by the change in the capital structure and the overall cost of capital remains fixed irrespective of the debt equity mix. It means the overall cost of capital or weighted average cost of capital will remain the same whether the debt equity is 50:50 or 30:70 or 0:100. 1. The split of total capitalization between debt and equity is not essential. 2. The equity shareholders and other investors capitalizes the value of the firm as a whole. 3. The business risk at each level of debt equity mix remains constant. 4. The debt capitalization rate is constant. 5. The corporate income tax does not exist. V þnder this approach the total value of the firm is computed by capitalizing the net operating income by weighted average cost of capital or overall cost of capital. V This approach is intermediatery to net income (NI) approach and operating income (NOI) approach and hence it is also known as intermediate approach propounded by Ezra Soloman. Debt is a cheap source of raising funds as compared to equity capital. therefore, according to this approach, a firm can reduce the overall cost of capital or increase the total value of the firm by increasing the debt proportion in its capital structure to a certain limit. V Franco modigliani and Merton miller theory is identical with net operating income theory in the absence of corporate taxes and net income theory when corporate taxes exist. 1. Perfect capital market. 2. No transaction cost. 3. Homogeneous risk class. 4. Risk. 5. No corporate taxes. V Main sources of procurement of finance are of two types which are as follows: 1. Sources of long term finance. 2. Sources of short term finance. V _ong term financing means raising of funds for long term i.e. a period exceeding five years and is required to execute several projects relating to improvement and development of existing industries and establishing new industry. V Short term financing means raising of funds for a short term i.e. less than one year. Such financing is required to meet the short term working capital needs of the business. Short term financing is of a self liquidating nature. 1. Equity shares. 2. Preference shares. 3. Debentures. 4. Term loan/ Institutional finance. V Equity shares are those shares which carry no preferential right in the payment of dividend and refund of capital. V An equity share is the existence of real ownership and residual interest in the earnings of the company. V Equity shareholders bear the maximum risk and therefore they control the affairs of the company from legal point of view. 1. Risk capital. 2. þnstable dividend. 3. Variable market price. 4. Refund of capital. 5. Claims on assets. 6. Right to control. 1. Permanent capital. 2. Increased debt capacity. 3. No fixed burden. 4. Internal financing. 5. Cheap source of finance. 6. Right to participate in management. 7. Capital gain. 1. Dilution in control. 2. Over capitalization. 3. High cost. 4. þncertainty of income. 5. þnsuitable for non risky investors. 6. _oss on liquidation. 7. Right of control is a myth. V A preference share is a share which carries preferential right as to the payment of dividend at a fixed rate either free or subject to income tax and as to the payment of capital at the time of liquidation prior to equity shareholders. 1. Claims of income. 2. Claims on assets. 3. No controlling power. 4. Hybrid security. 1. Cumulative and non cumulative. 2. Redeemable and irredeemable. 3. Participating and non participating. 4. Convertible and non convertible. 1. Wider market for raising capital. 2. Flexible capital structure. 3. No interference in management. 4. Regular fixed income. 5. Safety of capital. 1. Fixed burden. 2. More costly. 3. _oss to equity shareholders. 4. No voting rights. 5. No claim over surplus. 6. No capital gain. V Debentures includes debenture stock, bonds or any other securities of a company whether constituting a charge on the assets of the company or not. V In fact, a debenture is an acknowledgement of debt by a company. It is an instrument in writing under which a company agrees to pay a fixed rate of interest at a periodical intervals and to repay the loan at the expiry of the stipulated time. 1. Written acknowledgement of debt. 2. Refund of debt. 3. Claims on income. 4. Claims on assets. 5. Right to control. 1. Registered and Bearer debentures. 2. Redeemable and Irredeemable debentures. 3. Secured and unsecured debentures. 4. Convertible and non convertible debentures. 5. Guaranteed debentures. 6. Zero interest debentures. 7. Collateral debentures. 1. Capital from moderate investors. 2. Economy. 3. No interference in management. 4. Flexibility in capital structure. 5. Fixed and stable income. 6. Safety of investment. 7. _iquidity. V Fixed burden. V Reduction in credit worthiness. V No extra profits. V No voting rights. 1. IFCI 2. ICICI 3. IDBI 4. SIDBI 5. EXIM Bank 6. þTI 7. _IC 8. GIC 1. Public deposits. 2. Bank credit. 3. Trade credit. 4. Commercial paper. 5. Retained earnings. 6. Advances from customers. V The term public deposit means any money received by a non banking company by way of deposits from the public including the employees, customers and shareholders of the company other than in the form of shares and debentures. People preferred to deposit their savings with the reputed business firms due to the higher rate of interest offered by these firms and the lack of faith in the banks. 1. _oans. 2. Cash credit. 3. Overdraft. 4. Discounting of bills. 5. _etter of credit. V Trade credit is the principal source of short term finance. It is the credit extended by one business firm to another as incidental to sale or purchase of goods and services. V Generally, there are three categories of trade credit: 1. Open account. 2. Bills of exchange. 3. Promissory notes. V Commercial paper is an unsecured promissory note payable to the bearer and issued by business firms for a definite period (normally 7 to 90 days) based on discount, to raise short term funds. V Thus, commercial paper is a certificate of unsecured loan for a short period. But, only large companies enjoying high credit rating and sound financial position can issue commercial paper to raise funds because RBI has laid down a number of conditions to determine eligibility of a company for the issue V Ploughing back of profits is a technique of financial management under which all profits of a company are not distributed amongst the shareholders as dividend, but a part of the profits is retained or reinvested in the business. V This source of financing can be compared with the habit of an Indian women who saves from her husband·s income for bad days and it is used when the family has no other option. V In certain cases, manufacturers or suppliers of goods require from the customers to make an advance before the delivery of goods. This amount remains with the supplier till the delivery of goods. Thus, advance from customers is a cheap source of short term financing. This facility is available in case of products which are in short supply or which invite a waiting period for delivery. V Financial planning means deciding in advance the financial activities to be carried on to achieve the basic objectives of the firm. The basic objective of the firm is to earn maximum profits out of minimum efforts or to maximize the wealth of the shareholders in efficient manner. So, the basic purpose of financial planning is to make sure that adequate funds are raised at the minimum cost and that these funds are used wisely. V In other words, financial planning may be defined as a process of decision making 1. Determining financial objectives. 2. Formulating financial policies. 3. Developing financial procedures. 1. _ong term financial planning. 2. Medium term financial planning. 3. Short term financial planning. 1. Historical analysis. 2. Identifying the long term needs. 3. Identifying the sources of funds. 4. Analysis of the operational activities. 5. Harmony among different plans. 1. Simplicity. 2. Foresightedness. 3. Optimum use of funds. 4. Flexibility. 5. _iquidity. 6. Provision for contingencies. 7. Economy. 1. Nature of industry. 2. Size of business unit. 3. Quantum of risk. 4. Appraisal of alternative sources of finance. 5. Attitude of management. 6. Statutory control. 7. External factors. 1. Availability of capital at minimum cost. 2. Optimum capital structure. 3. Conservation of capital. 4. Replacement of obsolete assets. 5. Adequate liquidity. 6. Higher return on capital employed. 1. _imitations of forecasting. 2. _ack of coordination. 3. Rigidity.