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Unformatted text preview: g Value versus Maximizing EPS
Throughout this text, the goal of the financial manager has been specified as maximizing owner wealth, not profit. Although there is some relationship between
expected profit and value, there is no reason to believe that profit-maximizing
strategies necessarily result in wealth maximization. It is therefore the wealth of
the owners as reflected in the estimated share value that should serve as the criterion for selecting the best capital structure. A final look at Cooke Company will
highlight this point.
EXAMPLE Further analysis of Figure 12.7 clearly shows that although the firm’s profits
(EPS) are maximized at a debt ratio of 50%, share value is maximized at a 30%
debt ratio. Therefore, the preferred capital structure would be the 30% debt
ratio. The two approaches provide different conclusions because EPS maximization does not consider risk. Some Other Important Considerations
Because there is really no practical way to calculate the optimal capital structure,
any quantitative analysis of capital structure must be tempered with other impo...
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