Question

Capital Structure Review:

1) What is “capital?”

2. 2) How would you obtain/raise capital?

3. 3) How would you compute the cost of capital?

4. 4) What is the “capital structure?”

5. 5) Please write down the possible components of “capital structure.”

6. 6) How do you find a firm’s current capital structure?

7. 7) How do you know if a firm’s current capital structure is optimal?

8. 8) Does capital structure have any effect/impact on the stock value of a company?

9. 9) Does capital structure have any effect/impact on the bond value of a company?

10. 10) How would you compute the overall value of a company?

Answer 1

1) Capital is large sums of money that a business invest in order to start a business or capital is what a business invests in order to make more money. When we start a business of a manufacturing unit, the amount invested in machinery which is necessary to produce goods is also known as capital.

2) We raise capital through sale of common stock, using the profits of the business, issuing preferred stocks, issuing bond, using internal equity that is retained earnings.

3)the cost of capital computation: we can calculate the cost of capital by taking the current capital structure, determining the weights of debt and equity and using the cost of cost of debt and cost of equity to weighted cost of debt and equity to determine the total cost of capital.

cost of capital = weight of debt * cost of debt + weight of equity * cosy of equity

4)A capital structure is how a company finances its operations an assets with the mix of debt, equity and preference capital .

5)The capital structure is mainly composed of debt, equity and preference capital.The capital structure primarily is compose of only debt and equity.

6)A company changes its weight of debt and equity , by taking the current weight of debt and equity we can find the current capital structure of the company.

7) The capital structure of a form is optimal when the WACC is the minimum. When the WACC is the lowest, it provides the firm with the highest market value.

Value of company = FCF1/WACC - g ,

the value is highest, when the WACC is minimum.

8) The stock value is the market value of the company/ number of shares outstanding :

As the value of the firm is maximum when the WACC is minimum, using the appropriate mix of debt and equity provides the lowest possible WACC and the highest value of shares of the company. Yes, capital structure does have an impact on the value of the shares of the company.

9)No, the capital structure does not affect the bond value of the company.

10) The overall value of the company is determined by discounting the cash flows at the WACC,

value of the company = FCF1/WACC - G