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08 Capital Structure

Capital Re-Structuring

Change in capital structure and leverage

If we need to keep assets constant, then inc in debt should be accompanied with purchasing shares

We can maximize shareholder wealth by decreasing WACC

Leverage

Operating Leverage Financial Leverage
Asset for which firm has to pay a fixed cost Source of funds for which firm has to pay a fixed return
Shows ability of firm to Use fixed costs magnify effects of change in sales on its EBIT
Relationship between Sales & EBIT
Formula \(\frac{\Delta \% \text{EBIT}}{\Delta \% \text{Sales}}\)
We employ assets with fixed costs in the hope that volume will provide revenues sufficient to cover all fixed & variable costs
Interpretation If you believe that you can increase your sales by investing, go for investing in fixed costs
Risk Operating risk EBIT & EPS
Preferred for Companies with steady expansion
Liquidity \(\propto \frac{1}{\text{Operating Leverage}}\)

Fixed cost is a cost that does not change with no of units.

Operating Risk

Last Updated: 2024-05-14 ; Contributors: AhmedThahir

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