Capital Structure-B.V.Raghunandan


Published on

the study of debt-equity ratio, leverages

Published in: Economy & Finance
  • Be the first to comment

  • Be the first to like this

No Downloads
Total views
On SlideShare
From Embeds
Number of Embeds
Embeds 0
No embeds

No notes for slide

Capital Structure-B.V.Raghunandan

  1. 1. Chapter II-Capital Structure<br />
  2. 2. Meaning & Definition of Capital Structure<br />Capital Structure is, ”the permanent financing of the firm represented by long-term debt, preferred stock and networth”<br /> -Weston & Brigham <br />
  3. 3. Debt<br />Any source that gives the funding agency the creditorship status<br />In the horizontal form of Corporate Balance Sheet, it is the sum of III and IV items(Secured Loans and Unsecured Loans) on the Liabilities side of the Balance Sheet<br />In the vertical format, it is the II item (which again contains Secured Loans and Unsecured Loans) on the side of Sources of Funds<br />
  4. 4. Features of Debt<br />Compulsory Payment of Interest<br />Compulsory Repayment<br />Only Fixed Interest<br />No Annual Reports<br />No Voting Rights<br />
  5. 5. Merits of Debt<br />Benefit of Leverage<br />Cost of Raising Funds<br />Tax Advantage<br />Managerial Stability<br />Easier SEBI Norms<br />Flexible Features<br />Stable Market for Securities<br />Manageable Administrative Expenses<br />Flexible Repayment<br />Easier Regulatory Compliance<br />
  6. 6. Demerits of Debt<br />Compulsory Payment of Interest<br />Solvency Affected<br />Compulsory Redemption<br />Charge on Assets<br />Credit Rate Shopping<br />
  7. 7. Equity <br />Shareholders Fund or Ownership Capital<br />Compulsory Component of the Capital Structure<br />Sum of Equity Share Capital, Preference Share Capital and Reserves and Surplus<br />Preference Shares are not a Popular Instrument<br />
  8. 8. Equity Shares<br />Common Stock/Ordinary Shares<br />Full Fledged Ownership<br />Total Entitlement to the Assets<br />Repayment After the Satisfaction of Every Other Claim<br />Preemptive Right<br />Entitlement for Dividend, Bonus Shares and Other Such Rewards<br />
  9. 9. Benefits of Equity Shares<br />Basic for Capital Structure<br />Better Solvency<br />Gestation Period<br />No Redemption<br />No Charge on Assets<br />No Shopping for Credit Rating<br />Evaluation of Share Value<br />Better Image<br />Creation of Value<br />Public Knowledge of Financial Information<br />
  10. 10. Demerits of Equity Shares<br />Tax Implication<br />Management Control<br />High Rates of Dividend<br />Lack of Flexibility<br />Stringent SEBI Norms<br />Huge Issue Expenses<br />High Volatility in the Stock Market<br />Speculation<br />Complex Shareholder- Management Relation<br />Rigid Corporate Governance<br />
  11. 11. DE Ratio=Long Term Debt: NetworthDE Mix=<br />
  12. 12. Long-Term Debt=Secured Loans + Unsecured Loans<br />Long-Term Debt= Debentures +Bonds + Long Term Loans<br />
  13. 13. Networth=Shareholders’ Funds<br /> Networth = Share Capital + <br /> Reserves & Surplus – <br /> Fictitious Assets<br />
  14. 14. Calculate Debt Equity Ratio of Abacus Limited whose Balance Sheet as on March 31, 2004 was as given below<br />
  15. 15. Best Systems Limited had the following Balance Sheet as on 31-3-2004. Calculate Debt Equity Ratio.<br />
  16. 16. 2.3 Calculate Debt Equity Ratio of Arunodaya Chemicals 2000-01. Comment on the variation in the debt equity ratio from the year 2000 to the year 2001.<br />
  17. 17. Solution for Arunodaya Chemicals2.3<br />For 2000: Long Term Debt = Deb + LT Loans<br /> = 9,00,000 + 6,00,000= 15,00,000<br />Equity = Eq.Shares + P&L A/c + Reserves<br /> = 3,00,000 + 1,19,800 + 80,200<br /> = 5,00,000<br />Debt Equity Ratio = 15,00,000 : 5,00,000<br /> = 3:1<br />
  18. 18. De Ratio for 2001<br />LT Debt = 6,00,000 + 8,00,000 = 14,00,000<br />Equity = 4,00,000 + 1,82,500 + 1,17,500<br /> = 7,00,000<br />DE Ratio = 14,00,000 : 7,00,000 = 2:1<br />De Ratio has come down due to lesser component of Debentures even though Lt Loan has gone up. Every component of equity has also gone up.<br />
  19. 19. Debt Equity Mix<br />Significance of a High Debt Equity Mix: Reduced Tax Liability, Higher EPS<br />Significance of a Low Debt Equity Mix: Better Risk Management<br />Zero Debt Capital Structure and Its Relevance<br /> -Reducing Corporate Tax Rates<br /> -Equity Tied Image<br /> -Opportunity for Mergers & Acquisitions<br /> -Other Benefits<br />Trading on Equity<br />
  20. 20. Preparation of Statement of Income<br />Leverages: Operating Leverage, Financial Leverage and Combined Leverage<br />Degree of Leverages<br />Significance of Each Leverage: <br /> -Sales-EBIT-EPS Relation<br /> -Measurement of Risk Levels<br /> -Behaviour of Costs<br />