Chapter 13 - Capital Structure The optimal capital...

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Capital Structure The optimal capital structure is the mix of permanent financing (debt, preferred, common) that maximized the value of the firm and the stock price. It is a function of: The firm’s basic business risk The tax advantage of using debt The costs associated with bankruptcy
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Business Risk The volatility (variability) of the firm’s operating income or EBIT Delta Airlines: Revenue Related Cost Related
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Leverage What is a lever? What is it used for?
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Operating leverage The magnification of a change in sales (revenue) to a larger change in operating income (EBIT). Caused by FIXED OPERATING COSTS
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Financial Leverage The magnification of a change in EBIT to a larger change in EPS. Caused by FIXED FINANCING COSTS
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Total Leverage The magnification of a change in sales (revenue) to a larger change in EPS Sales - Variable Operating Costs - Fixed Operating Costs - EBIT - Interest - Taxes - Net Income / # shares = EPS
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Examples of Operating Leverage Company A Company B
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Chapter 13 - Capital Structure The optimal capital...

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