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Management_Of_Capital_Structure

Management_Of_Capital_Structure - Management Of Capital...

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Management Of Capital Structure A.J.Singh HB 482 Spring 2009
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What Is Financial Management? Financial Management Involves Two Decisions Investment Decisions: What Investment will earn me the highest Rate of Return? What are the Risks associated with this investment? What are the alternative uses of funds? When should existing assets be replaced? Financing Decisions: How Do I Raise Capital For a Project? Should we take the company Public? How can we reduce the firm’s cost of Capital? What is the optimal mix of debt and equity? How much credit do I want to extend my customers? Purpose of Decisions: Increasing the wealth of shareholders or owners
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What is the Firm’s Asset and Capital Structure? Asset Structure Capital Structure Assets OCF/EBIT Dividend Decision REo Wo= DIV0 +Vo (DIVt) Debt Principal Interest Government: Taxes Equity CFAT/NI/EPS
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Source: Credit Lyonnais Securities (USA) Research and Smith Travel Research. Total U.S. New Hotel Construction (1987-1998) 0 200 400 600 800 1,000 1,200 1,400 1,600 1987 1988 1989 1990 1991 1992 1993 1994 1995 1996 1997 1998 0 20,000 40,000 60,000 80,000 100,000 120,000 140,000 160,000 # Hotels Avg. # Rooms Per Hotel # Rooms Linear ( # Rooms) New Rooms New Hotels Total U.S. New Hotel Construction (1987-1998)
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Source: Credit Lyonnais Securities (USA) Research and Smith Travel Research. Revenue numbers for 1982-1989 were unavailable. Total U.S. Hotel Revenue / Profitability (1982-1998, $ Billions) $2.5 $1.9 $1.7 $0.1 -$0.9 -$1.1 -$1.3 -$2.1 -$5.7 -$2.8 $0.0 $2.4 $5.5 $8.5 $12.5 $17.0 $20.9 $22.0 ($10) ($5) $0 $5 $10 $15 $20 $25 $30 $35 $40 $45 1982 1983 1984 1985 1986 1987 1988 1989 1990 1991 1992 1993 1994 1995 1996 1997 1998 1999E $0 $10 $20 $30 $40 $50 $60 $70 $80 $90 $100 $110 Profitability Revenue Revenue / Billions Profitability / Billions Total U.S. Hotel Revenue/Profitability (1982-1998)
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Risky Nature of Hospitality Industry Financial Leverage and Operating Leverage Financial Risk is a Result of Financial Leverage. Financial Leverage = The ratio of fixed capital costs (such as debt) to variable. When industry (such as hotel) has high financial leverage: Greater opportunity for returns when earnings high but high chance of insolvency when earnings drop Operating Leverage = Proportion of fixed operating costs in a hotel’s cost structure Industry’s (such as hotel) with high operating leverage are very responsive to changes in sales..so When sales decrease or increase high impact on earnings/profits
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Business and Financial Risk
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The Concept of Leverage You cannot easily move a large boulder.
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The Concept of Leverage However, with the aid of a lever you can move an object many times your size.
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The Concept of Leverage The longer the lever, the bigger the rock you can move.
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The Concept of Leverage In a financial context, the magnifying power of leverage can be used to help (or hurt) a firm’s financial performance. Operating leverage occurs due to fixed costs in the asset structure of the business or in the production process.
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