Question

Discuss why using debt financing is argued to be increasing firm value and why the optimum...

Discuss why using debt financing is argued to be increasing firm value and why the optimum capital structure is not 100% debt financing.    

Business   Finance   
0 0
Add a commentTranscribed image text
Next >

Homework Answers

Answer #1

Since interests are tax deductible hence debt financing increases value . The Value of Levered firm = Value of Unlevered Firm + Debt* Tax Rate. Moreover cost of debt is less than cost of equity because debt holders have first right in case of liquidation.

100% debt financing increases the risk of the firm and hence the incremental cost of debt increases and in case of recession the debt repaying capacity of the firm decreases which might create default of payment.

Please Discuss in case of Doubt

Best of Luck. God Bless
Please Rate Well

0 0
Know the answer?
Your Answer:

Post as a guest

Your Name:

What's your source?

Earn Coins

Coins can be redeemed for fabulous gifts.

Log In

Sign Up

Not the answer you're looking for?
Ask your own homework help question
Similar Questions
If the cost of debt is the lowest among the sources of financing, would increasing the...
If the cost of debt is the lowest among the sources of financing, would increasing the percentage of debt in the Capital Structure reduce the Cost of Capital to the firm? The ratio of Equity to Total Assets is very low in Banks. Why is that the case?
If a company's existing capital structure is not optimum, should the company take on more debt,...
If a company's existing capital structure is not optimum, should the company take on more debt, repurchase stock, have a seasoned equity offering? why or why not?
Since debt is the cheapest source of financing for the firm, all firms should obtain 99%...
Since debt is the cheapest source of financing for the firm, all firms should obtain 99% of their financing from debt and only 1% from equity. True or false and explain your answer.  Hint – review the material on capital structure before attempting to answer.
1. Capital structure decisions and firm value Why focus on the optimal capital structure? A company’s...
1. Capital structure decisions and firm value Why focus on the optimal capital structure? A company’s capital structure decisions address the ways a firm’s assets are financed (using debt, preferred stock, and common equity capital) and is often presented as a percentage of the type of financing used. As with all financial decisions, a firm should try to establish a capital structure that maximizes the stock price, or shareholder value. This is called the optimal capital structure; it is also...
its argued that firms should have 100% debt. why might this not be the case.
its argued that firms should have 100% debt. why might this not be the case.
Discuss any ways that you think a change in the capital structure of a firm can...
Discuss any ways that you think a change in the capital structure of a firm can affect the stock price. Discuss how the tax code favors debt financing over equity.
Discuss any ways that you think a change in the capital structure of a firm can...
Discuss any ways that you think a change in the capital structure of a firm can affect the stock price. Discuss how the tax code favors debt financing over equity.
Consider a firm with an EBIT of $566,000. The firm finances its assets with $1,160,000 debt...
Consider a firm with an EBIT of $566,000. The firm finances its assets with $1,160,000 debt (costing 6 percent) and 216,000 shares of stock selling at $16.00 per share. The firm is considering increasing its debt by $900,000, using the proceeds to buy back 91,000 shares of stock. The firm is in the 40 percent tax bracket. The change in capital structure will have no effect on the operations of the firm. Thus, EBIT will remain at $566,000. Calculate the...
Consider a firm with an EBIT of $565,000. The firm finances its assets with $1,150,000 debt...
Consider a firm with an EBIT of $565,000. The firm finances its assets with $1,150,000 debt (costing 5.9 percent) and 215,000 shares of stock selling at $14.00 per share. The firm is considering increasing its debt by $900,000, using the proceeds to buy back 90,000 shares of stock. The firm is in the 30 percent tax bracket. The change in capital structure will have no effect on the operations of the firm. Thus, EBIT will remain at $565,000. Calculate the...
Consider a firm with an EBIT of $10,600,000. The firm finances its assets with $50,200,000 debt...
Consider a firm with an EBIT of $10,600,000. The firm finances its assets with $50,200,000 debt (costing 6.6 percent) and 10,100,000 shares of stock selling at $10.00 per share. The firm is considering increasing its debt by $25,100,000, using the proceeds to buy back shares of stock. The firm is in the 40 percent tax bracket. The change in capital structure will have no effect on the operations of the firm. Thus, EBIT will remain at $10,600,000. Calculate the change...
ADVERTISEMENT
Need Online Homework Help?

Get Answers For Free
Most questions answered within 1 hours.

Ask a Question
ADVERTISEMENT