chapter11 - Chapter Across the Disciplines 11 Why This...

Info icon This preview shows pages 1–3. Sign up to view the full content.

View Full Document Right Arrow Icon
Leverage and Capital Structure Chapter Across the Disciplines Why This Chapter Matters To You Accounting: You need to understand how to calculate and analyze operating and financial leverage and to be familiar with the tax effects of various capital structures. Information systems: You need to under- stand the types of capital and what capital structure is, because you will provide much of the information needed in man- agement’s determination of the best capi- tal structure for the firm. Management: You need to understand leverage so that you can magnify returns for the firm’s owners and to understand capital structure theory so that you can make decisions about the firm’s optimal capital structure. Marketing: You need to understand breakeven analysis, which you will use in pricing and product feasibility decisions. Operations: You need to understand the impact of fixed and variable operating costs on the firm’s breakeven point and its operating leverage, because these costs will have a major impact on the firm’s risk and return. 11 LEARNING GOALS Discuss the role of breakeven analysis, the operating breakeven point, and the effect of changing costs on it. Understand operating, financial, and total leverage and the relationships among them. Describe the types of capital, external assessment of capital structure, the capital structure of non-U.S. firms, and capital structure theory. Explain the optimal capital structure using a graphical view of the firm’s cost-of-capital functions and a zero- growth valuation model. Discuss the EBIT–EPS approach to capital structure. Review the return and risk of alternative capital structures, their linkage to market value, and other important considerations related to capital structure. LG6 LG5 LG4 LG3 LG2 LG1 421
Image of page 1

Info iconThis preview has intentionally blurred sections. Sign up to view the full version.

View Full Document Right Arrow Icon
422 PART 4 Long-Term Financial Decisions capital structure The mix of long-term debt and equity maintained by the firm. leverage Results from the use of fixed-cost assets or funds to magnify returns to the firm’s owners. Leverage Leverage results from the use of fixed-cost assets or funds to magnify returns to the firm’s owners. Generally, increases in leverage result in increased return and risk, whereas decreases in leverage result in decreased return and risk. The amount of leverage in the firm’s capital structure —the mix of long-term debt and equity maintained by the firm—can significantly affect its value by affecting return and risk. Unlike some causes of risk, management has almost complete control over the risk introduced through the use of leverage. Because of its effect on value, the financial manager must understand how to measure and evaluate leverage, particularly when making capital structure decisions. The three basic types of leverage can best be defined with reference to the firm’s income statement, as shown in the general income statement format in Table 11.1.
Image of page 2
Image of page 3
This is the end of the preview. Sign up to access the rest of the document.

{[ snackBarMessage ]}

What students are saying

  • Left Quote Icon

    As a current student on this bumpy collegiate pathway, I stumbled upon Course Hero, where I can find study resources for nearly all my courses, get online help from tutors 24/7, and even share my old projects, papers, and lecture notes with other students.

    Student Picture

    Kiran Temple University Fox School of Business ‘17, Course Hero Intern

  • Left Quote Icon

    I cannot even describe how much Course Hero helped me this summer. It’s truly become something I can always rely on and help me. In the end, I was not only able to survive summer classes, but I was able to thrive thanks to Course Hero.

    Student Picture

    Dana University of Pennsylvania ‘17, Course Hero Intern

  • Left Quote Icon

    The ability to access any university’s resources through Course Hero proved invaluable in my case. I was behind on Tulane coursework and actually used UCLA’s materials to help me move forward and get everything together on time.

    Student Picture

    Jill Tulane University ‘16, Course Hero Intern