M&M Pizza Essay

1745 Words Mar 9th, 2016 7 Pages
FINA 351 – Managerial Finance, Chapter 13, Capital Structure, Notes
1. What is Capital Structure (CS)?
It is the mix of debt and equity on the balance sheet. The basic capital structure question is: How
much debt is right for this company? Contrary to what your momma may have taught you,
according to the so-called finance experts too little debt may be just as costly as too much debt,
because debt financing is usually the cheapest source. This is why it is often said that debt is a
two-edged sword: too much is bad but so is too little.
2. Why is CS important?
It directly impacts the cost of capital and therefore directly affects the value and profitability of
the company. For example, at one time Hershey Foods determined that its
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6. Who determines the optimal CS and how?
Management and the board are charged with these important decisions. How they decide differs
from firm to firm but in general they use: (1) internal studies and investment bankers to help
crunch the WACC formulas, (2) follow the industry average, and/or (3) use their intuition.
7. Is the CS of companies similar within an industry?
Yes. Companies in uncertain or cyclical industries (often with higher betas) need the flexibility
that low-debt brings. For example, drug companies might make it big with one product, but they
never know when if the next drug will be approved and how it will sell. Companies in more
stable industries (with
lower betas) are in a better
position to carry higher
debt, such as cable
television. Industries that
require a lot of heavy
industrial equipment or
infrastructure typically
need more L/T financing,
such as airlines or
electrical utilities. On the
other hand, industries with
little infrastructure usually
need little debt, such as
computer software
companies.

8. What is the Overall Pattern of CS in the U.S.?
Debt/Total Assets is about 60% based on book values, but closer to 30% based on market values.
Recently, long-term financing has come from debt more often than equity, with equity financing
actually being negative (more stock repurchased than issued) in some years. However, IPOs have
been picking up lately. Overall, companies in the U.S. have not used debt…

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