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shareholders in bankruptcy, since shareholders are the residual claimants. Moreover, cost of financial distress varies with the type of the asset, as some assets are transferable
whereas others are non-transferable. For instance, the value of a real estate company can easily be
auctioned off, whereas it is significantly more involved to transfer the value of a biotech company where
value is related to human capital. Download free ebooks at bookboon.com
63 Corporate Finance Corporate ﬁnancing and valuation The cost of financial distress will increase with financial leverage as the expected cost of financial distress
is the probability of financial distress times the actual cost of financial distress. As more debt will increase
the likelihood of bankrupt, it follows that the expected cost of financial distress will be increasing in the
In summary, introducing corporate taxes and cost of financial distress provides a benefit and a cost of
financial leverage. The trade-off theory conjectures that the optimal capital structure is a trade-off between
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This note was uploaded on 10/26/2012 for the course 19 19 taught by Professor - during the Spring '12 term at Sunway University College.
- Spring '12