Explain the pro's and cons to a company’s shareholders if the company were to increase the...

Explain the pro's and cons to a company’s shareholders if the company were to increase the proportion of debt in its capital structure?

Expert Solution

Benefit to the shareholders of the company if company is increasing the proportion of debt-

A. it will be leading to the overall lower cost of capital for the company due to increase in the proportion of debt capital because debt capital will have the advantage of interest tax deduction.

B. It will also lead to to help the equity shareholders as it will lead to no dilution of their existing stake.

C. it will also lead to increase in to the Earning per share of the company and return on equity

Disadvantage of increasing debt capital in the overall capital structure for the equity shareholders-

A. It will lead to higher risk for the company as the company will also have a solvency risk attached to it.

B. There will be restrictive covenants which will be put by debtholders in order to protect their own interest which will restrict the growth of company

C. Equity shareholders will also have a lower benefit on liquidation of the company as the number of secured claimant will be higher.

jeff jeffy answered 2 years ago

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