Question

ver the past 5 years Truman Incorporated has been maintaining its total debt ratio in the range of
60^ - 70% (hint questions below may be answered in a framework of Miller-motigani theory and/or
other main finance theories you learned about in the course.
a. give at least three reasons why Truman might be using debt financing. Instead of equity finance only?
Truman inc. has been maintain debt levels in a range of 60-70% cover the past 5 years. Why is Truman
using equity only? Alternatively, why does not T1 increase leverages closer to 90% for example?

Answer 1

The main benefit of using debt in the capital structure is that it does not dilute the control of the present equity shareholders.

The Other major benefit of the use of debt is the benefit of leverage due to tax deductibility of interest paid on the debt.

The third benefit of using debt financing is that it carries a fixed return and one does not have to share the extra business profits.

Complete use of debt is not advisable since it reduces the credit rating of the business. Excessive debt puts the burden on the company and puts the company in all lurch in case of low profits. It reduces the goodwill of the company and makes it difficult to raise finances in case of needs. Excessive debt leads to bankruptcy.