5. New Capital Structure Taxes Financial Distress

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Unformatted text preview: 1 Click to edit Master subtitle style School of Business Administration University of Miami Capital Structure: Taxes & Financial Distress Corporate Financial Management Replaces slides 36 to end for Advanced Capital 22 Assigned Readings & Problems  Read Chapter 16  In Chapter 16 do: Questions/Challenging Questions: 1, 3, 7, 8, 9, 12, 14, 16, 17, 19, 20 Problems: A1, A2, A5, A6, A7, B7, C1, C4  In Chapter 17 do: Questions/Challenging Questions: 1, 5, 8, 9, 15 Problems: B2, B3, B4 SEE END OF THE LECTURE NOTES FOR ADDITIONAL ASSIGNED PROBLEMS! Replaces slides 36 to end for Advanced Capital 33 Learning Objectives  In these lecture notes we will learn the background necessary to choose the optimal capital structure of a firm based on tax and bankruptcy considerations  Specifically, in this lecture we will: Define capital structure Describe the conditions under which capital structure is irrelevant Analyze the effect of taxes on the capital structure decision Analyze the effect of bankruptcy costs/financial distress on the capital structure decision Describe the (tax shieldbankruptcy cost) trade-off theory of capital structure Make predictions of the (tax shieldbankruptcy cost) trade-off theory of Replaces slides 36 to end for Advanced Capital Notation  T=Corporate Tax Rate  EBIT = Earnings before Interest and Taxes  Earnings = (EBIT Interest)(1 T)  rD=Cost of Debt Capital  rA=Cost of Unlevered Equity Capital 44 Replaces slides 36 to end for Advanced Capital 55 What is Capital Structure?  Capital Structure is the mix of different securities a firm uses to raise capital  The optimal capital structure is the particular combination of securities that maximizes the firms overall market value, its Total Market Capitalization, or its equity value One goal of the CFO and Treasurer is to find the Optimal Capital Structure We will focus primarily on the optimal mix of equity and debt  Capital Structure is one of the oldest--and still unsolved--questions of modern finance In fact, one often hears that modern finance began with the first economics-based theory of capital structure, the famed Modigliani and Replaces slides 36 to end for Advanced Capital 66  The amount of debt in a firms capital structure is called its leverage  Letting D be the market value of debt and E the market value of equity , leverage can be measured as the ratio of debt to value:  Or, debt to equity V D E D D = + E D Replaces slides 36 to end for Advanced Capital 77 ...
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This note was uploaded on 09/18/2011 for the course FIN 303 taught by Professor Bernile during the Spring '11 term at University of Miami.

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5. New Capital Structure Taxes Financial Distress - 1 Click...

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