Question

Principles of Finance II WEEK 1: Discussion Prompt #2 The marginal cost of capital (MCC) is the cost of the last dollar of capital raised, essentially the cost of another unit of capital raised. As more capital is raised, the marginal cost of capital rises. How can too much capital be damaging to the financial state of the organization? In your response, provide two examples that showcase the marginal cost of capital and the impact this makes in the decision-making process.

Answer 1

Organization must raise the capital keeping in view of the requirements of company.

i.e Where it is investing and how much return it generates through that investment.

Because, when it raises capital , company must compensate them with Dividends (In case of share holders), Interest ( in case of Lenderrs,Banks)

How can too much capital be damaging to the financial state of the organization?

As long as expectation of company, that it genetates more income from investments made than it needs to pay to its investors. Organization can raise capital.

i,e Profit > (interest+dividends)

provide two examples that showcase the marginal cost of capital and the impact this makes in the decision-making process.

comapny can raise capital from many sources such as going for public issue, taking loans from banks,issuing debentures.

In case of banks, Debentures, organization need to pay fixed interest even when company is not performing well,not same with equity shareholders.

if the company is intial stage of growth, if it raises more capital from banks and debenture holders ,then it is not safe for a company if not able to pay interest on a regular basis as it leads to Non performing asset and seizure of properties given for the purpose of taking loans.better to have more self net worth or you can try venture capitalists.

If the company is settled and earning good and consistent profits and profit margin greater than interest it need to pay , it can obtain loans and use them in business , giving chance for reserves to invest other businesses and try new ventures.