6.2 Lecture_12_Thursday_20_August

# Thereforefirmvalueshouldbeseenasafunctionofroe

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Unformatted text preview: t may become a perverse incentive: A manager will defend a high existing ROE averaged out from Projects A, B and C By turning down Project D which has an ROE which would drag the average down Even though Project D is a positive NPV project. Therefore firm value should be seen as a function of ROE, Size and Risk (see pp125­127 text) …and _____________________________ 15 15 More on the Debt Management Ratios concerning Leverage Total Liabilities Debt Ratio = Total Assets Debt Debt to Equity Ratio = Equity 16 16 The Debt Ratio (from Lecture 11) D 1, 445 + 500 = TA 3, 497 = 55.6% D/TA 2009 2008 2007 Ind. 55.6% 95.4% 54.8% 50.0% 17 17 Debt Ratio versus D/E Ratio • To convert from Debt Ratio to D/E ED + =1 TA TA E D ⇔ = 1 − TA TA D TA = E 1− D TA D Example If D TA = 0.2 = 1 − 0.2 = 0.8 then E TA and ... ( ) ⇒D E 0.8 = 0.25 or 25% 18 18 = 0.2 A tricky issue concerning Debt, Equity and tricky Total Assets Total • • Total Assets (TA) = Total Debt + Total Equity But Total Debt = CL + Long­term Debt In the Finance discipline, Capital Structure is determined on Equity and Debt that excludes spontaneous liabilities L* Current Liabilities are only included to the extent they contain Short­term negotiated Debt...
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