The optimum capital structure of a company is planned as per considerations of I. Profitability II. Solvency III. Marketability of shares IV. Control Codes :
I, II and IV only
An optimum capital structure is the mix of debt and equity that maximises the value of the firm and minimises its overall cost of capital. Standard texts describe it through the considerations of profitability (return), solvency (risk), flexibility, conservatism and control.
I. Profitability: the structure should use cheaper debt to raise earnings per share through favourable financial leverage, so profitability is a core consideration.
II. Solvency: borrowing should not be so heavy that fixed interest and repayment obligations threaten the firm's ability to pay, so solvency is a consideration.
III. Marketability of shares: this is a factor in choosing the timing and type of a particular issue, because a firm can sell only what the market will absorb at the time. It is not one of the basic considerations on which the optimum structure is planned.
IV. Control: equity issues dilute the voting control of existing owners while debt does not, so control is a consideration.
So profitability, solvency and control are the considerations, and marketability of shares is not.
Hence, I, II and IV only.
Similar Questions
Match the items of List - I with the items of List - II and find out the correct matching.
List - I List - II (Formulae) (Type of leverages) (a) \(\frac{\text{Contribution}}{\text{EBIT}}\) (i) Financial leverage (b) \(\frac{\text{EBIT}}{\text{Earnings before Tax (EBT)}}\) (ii) Super – leverage (c) \(\frac{\text{Contribution}}{\text{EBT}}\) (iii) Operating leverage Codes :
(a) (b) (c)
On the basis of the following information, what will be the EBIT corresponding to financial indifference point ?
Total capital outlay ₹ 60,00,000
Financing Plans
(a) 100% Equity @ ₹ 10/- per share
(b) Debt – equity ratio 2 : 1
Rate of interest 18% p.a., corporate tax rate 40%
Combined leverage is calculated as :
Financial Leverage is measured by :
The term ‘capital structure’ implies :
The benefits of debt financing over equity financing are likely to be highest in which of the following situations ?
The degree of super-leverage would be calculated by :
Assertion (A) : Arbitrage keeps the cost of capital constant despite change in the capital structure.
Reason (R) : It ensures compensating inverse change in cost of equity capital with a change in the cost of debt capital.
Codes :
A firm wants to know the Degree of Operating Leverage (DOL) with the following information :
Current level of sales : 6000 units
Break-even point sales : 4000 units
What would be the DOL ?
Statement – I : Capital structure refers to composition of long-term funds.
Statement – II : These include equity share capital, preference share capital, debentures, all debts and all reserves.
Important Questions from Capital structure
Choose the correct code for the following statements being correct or incorrect.
Statement I: Companies generally do not prefer low cost debt financing.
Statement II : Raising debts requires credit rating and payment of interest even if companies suffer losses.
- Which of the following theories of capital structure articulates that a firm borrows up to the point where the tax benefit from extra debt is exactly equal to the cost that comes from the increased probability of financial distress?
- The mean marks of $100$ students were found to be $45$. Later on it was discovered that at the time of computation two are wrongly taken as $23$ and $27$ instead of $32$ and $72$. What is the correct mean?
'That personal leverage can replace corporate leverage' is assumed by
The optimum capital structure is supported by which combination of the following ?
(i) Traditional theory
(ii) Net income theory
(iii) Pecking order theory
(iv) Net operating income theory
Choose the correct answer from the code given below:
