COMMERCE 3FA3 Chapter Notes - Chapter 16: Capital Structure, Tax Shield, Financial Risk
10 Feb 2018
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Chapter 16 textbook: financial leverage and capital structure policy. Here, as always, we assume that the guiding principle is to choose the action that maximizes the value of a share of stock. As we discuss next, however, when it comes to capital structure decisions, this is essentially the same thing as maximizing the value of the firm, and, for convenience, we frame our discussion in terms of firm value. We say that a particular debt/equity ratio represents the optimal capital structure if it results in the lowest possible wacc. This is sometimes called the firm"s target capital structure. As our example shows, financial leverage measures how much earnings per share (and roe) respond to changes in ebit. Many analysts use a convenient alternative formula for dfl: Homemade leverage: the use of personal borrowing to change the overall amount of financial leverage to which the individual is exposed. 16. 3 capital structure and the cost of equity capital.
