Question

The cost of capital plays a critical role in funding the operations of an organization. Recommend several ways a corporation can reduce their borrowing costs to gain a competitive advantage over a rival. Why did you make the recommendations that you did?

Answer 1

Cost of capital is the most critica in funding of a business organisation because it consists of all such element of the capital structure which will maximize the overall return of the company by minimising the overall cost of the capital. A company always looks for minimization of its cost of capital in order to maximizing its overall return so that it helps in growing the company.

There should be an optimum focus on proper mix of debt capital as well as equity capital that would help a company to generate maximum of its profits and minimise maximum of its risk.

As we all know that debt financing has a interest rate tax shield associated with it, so that all interest payments are tax deductible in nature hence debt capital reduce the overall cost of capital, if the overall rate of return is higher than the cost of debt.

there are several ways in which a corporation can reduce its borrowing cost to gain a competitive advantage over rival-

1. The company can analyse all of its debt financing and it need to ditch all those expensive debt, which are mostly unfavourable to the company and which place less emphasis on debt with low interest.

2. Company should also try to put off its big expenses because this will lead to cutting of the cost to a greatest possible extent and this will also allow the company to avoid the solvency risk.

3. Company can also focus on tightening of the inventory which will help into reduction of the excessive wastage and it could be done through adaptation of inventory management systems like just in time systems.

4. Company can also look for incorporation of all such debt capital into its overall capital structure, when it is able to generate a higher rate of return than the cost of debt so that the differential would lead to the growth of the company.

5.Company can also focus on reducing its cash conversion cycle so that it will help the company in staying liquid and avoid paying on any excessive interest so that it can meet its debt repayment schedule in time.

6. Company can also use maximum of the retained earning and equity cost of capital, if it does not want to have a fixed load of interest payment and if it also does not want to dilute it over all control.

7.Company can also save on the shipping and deliveries because this cost cut the profit very quickly, if the company is not careful, so it can be looked at a way of reduction of the overall cost and it will be helpful in magnifying overall profit.

I made the recommendation because cutting of cost of capital will help the company in gaining a competitive advantage against it's competitors because it will be able to make a higher profit and margin on profit would also be higher because there would be less variable cost.