This document provides an outline for a presentation on capital structure and the trade off theory. It introduces the presenters and outlines topics to be covered, including definitions of capital structure and firm value, the trade off theory, benefits and costs of leverage, and balancing costs and benefits to find an optimal capital structure. The trade off theory suggests there is an optimal mix of debt and equity that maximizes firm value by balancing the tax shield benefits of debt against the financial distress costs.

1. Hello Everyone

2. Crew Introduction
 Ali Zeb Khan
 Ihtisham Hussain
 Kashif Khan

3. Presentation Outline
 What is capital structure?
 What is firm value and how to maximize firm value?
 Leverage and WACC?
 What is Trade off theory?

4. Capital Structure
 Is the right mix of debts and equity.
 V=D+E
 Does capital structure really matter?
 In good times leverage makes everything better vice versa.
 What is the only way to increase the value of a firm (w/c-F)

5. Trade off theory
SUGGESTED BY MAYER(1984)
 Theories suggest that there is an optimal capital structure that maximizes the
value of the firmin balancing the costs and benefits of an additional unit of
debt, are characterized as models of tradeoff.
 Optimal level of leverage is achieved by balancing the benefits from interest
payments and costs of issuing debt.

6. Why balance between Cost and Benefits
BENEFITS OF DEBT
1. TAX SHIELD BENEFIT
Iinterest expences are tax deductible but in equity dividend are not.
2. ADDED DISCIPLINE:
manager to think more about the investment decision more carefully and
reduce bad investment

7. Why balance between Cost and Benefits
COST OF DEBT
1.BANKRUPTCY COST
Firms with a greater risk of experiencingfinancial distress tend to borrow less
than firms having lowerfinancial distress risk.
2.AGENCY COST
Conflict between shareholder and mangement.
Conflict between shareholder and craditor.
3. LOSS OF FLAXIBILITY
Using p availible debt capicity today will mean that ou cannot draw on it in the
future.

8. Debt/Equity
Value of
unlevered
firm
PV of interest
tax shields
Costs of
financial distress
Value of levered firm
Maximum value of firm
MarketValueofTheFirmOptimal Capital Structure

9. Summary
 Capital structure is the mix of debt and equity
 The objective of capital structure is to maximize firm value.
 Firm maximize value by increasing debts and reducing Weighted average Cost.
 Trade off theory says that at the optimal capital structure firm value is equal
to firm cost (Benefit is equal to Cost)
 Finally we can say that firm market value is not affected by capital structure.

10. Thank You!
Any Question from Sir?