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Tut8 - 3 a The trade off theory of capital structure can...

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FINS5514 Capital Budgeting Tut 8 Capital Structure II 1. The static theory advocates borrowing to the point where: a. the pre-tax cost of debt is equal to the cost of equity. b. the cost of equity is equal to the interest tax shield. c. the tax benefit from debt is equal to the cost of the increased probability of financial distress. d. the interest tax shield is maximized. 2. The empirical observation that there is a negative relationship between profitability and leverage is embarrassing for the trade-off theory of capital stricture. Explain why.
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Unformatted text preview: 3 a) The trade off theory of capital structure can explain some of the debt-equity ratio differences between industries but cannot explain such differences between companies within a given industry. Explain why this is correct or is incorrect. 4 Consider your answer to question 3, above, and outline another theory which can explain differences in capital structure between companies in the same industry....
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