Economics
Financial Structure
Financial structure refers to the composition of a firm's liabilities and equity. It encompasses the mix of short-term and long-term debt, as well as the proportion of equity financing. A firm's financial structure influences its ability to raise capital, manage risk, and achieve its financial objectives.
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3 Key excerpts on "Financial Structure"
eBook - ePub- Brümmer LM, Hall JH, Du Toit E(Authors)
- 2017(Publication Date)
- Van Schaik Publishers(Publisher)
When studying a Statement of Financial Position, it is important to bear in mind that an understanding of the organisation’s capital structure provides valuable information about the organisation, for which reason the two preceding chapters (chapters 10 and 11) were devoted to laying a suitable foundation for this important task. As mentioned before, the capital structure is a carefully constructed part of the Statement of Financial Position, for reasons that will be discussed in this chapter. 200 Capital structure Composition of the capital structure The capital structure of an organisation consists of all the long-term funds invested in the organisation, but does not include current liabilities. Remember that when the current liabilities are included with the organisation’s long-term funds, we arrive at the organisation’s Financial Structure. We may say, therefore, that the capital structure is made up of owners’ equity, preference share capital and non-current debt. In the Statement of Financial Position of LJE Ltd (refer to Chapter 4), capital structure is found in the section marked Q.1. It is important to remember that when we refer to capital structure, we are referring specifically to these components. You will note that they are the same components used to derive the weighted average cost of capital (WACC) in Chapter 11. An understanding of the composition of the capital structure is important because it gives the prospective investor an indication of the possible extent of the financial risk that may be involved in the affairs of the organisation which he is investigating, and how the organisation has accommodated risk in its financing decision. It also provides an indication of the particular organisation’s attitude towards risk in its own field of operation
eBook - PDFIntroduction to Finance
Markets, Investments, and Financial Management
- Ronald W. Melicher, Edgar A. Norton(Authors)
- 2020(Publication Date)
- Wiley(Publisher)
All these variations of debt and equity give the firm valuable flexibility. Corporate financial man- agers’ decisions about the structure of a security issue may be more difficult now, but these choices also can allow them to lower the cost of capital and increase firm value. 25 18.8.8 GUIDELINES FOR FINANCING STRATEGY We have covered a lot of ground and a lot of controversy. Let’s summarize the practical implications of these discussions and list the influences of theory and real-world evidence on a firm’s capital structure decisions. 23 Finance is not just finance; it sometimes involves marketing research and analysis. Wall Street firms serve two customers: issuers and investors. By designing innovative securities to better meet their customers’ needs, investment bankers can exploit market niches by being the first mover into a new product area. Such innovation will attract business, enhance income, and increase the firm’s reputation among market players. 24 For example, a silver mining firm whose profits and cash flow are sensitive to silver’s market price can reduce its financial leverage by issuing bonds that pay interest at a rate related to silver price fluctuations. 25 An accessible review of issues related to capital structure and cost of capital is available in Zander’s 8-part series “WACC: Practical Guide for Strategic Decision-Making” found on http://zanders.eu/en/latest-insights/wacc-practical-guide-for-strategic-decision-making- part-1 with subsequent parts ending in 2, 3, and so on. Zanders, Treasury and Finance Solutions, is a European-based consulting firm. Their series on WACC was featured on the gtnews website, March 2006–March 2007. 606 CHAPTER 18 Capital Structure and the Cost of Capital 18.8.8.1 Business Risk Firms in the same industry will generally face the same business risks. Many financial managers con- fess they examine their competitors’ capital structures to determine if their own financial strategies are appropriate.
eBook - PDF- Anthony N Birts(Author)
- 2001(Publication Date)
- Woodhead Publishing(Publisher)
Developing a capital structure: practitioners' approaches Introduction In the absence of a formula to tell us how much equity and how much debt to use, we need to look at how companies do decide on appropriate capital structures. This will involve examining what objectives they have in mind when addressing capital structuring and what factors will influence their decision. The previous chapters have looked at the theoretical approaches to deciding on the debt/equity decision, what appears to be important from observations of behaviour and the broad issues involved in the types of debt or equity that might be included in the capital of a company. This chapter now draws those issues together and focuses on those factors which practitioners say are important. The case study at the end of this chapter, while focusing on a particular industry and a particu-lar company at a specific point in time, nonetheless illustrates the points made in the main body of the chapter although it carries the usual caveat that a different solution might be sought in today's market. Major factors for consideration It seems that there are three major concerns for a financial manager when considering capital structure decisions: • the ability to service and repay debt; • liquidity and refinancing risk; • maintaining a degree of flexibility. C h a p t e r 4 These are, of course, interrelated. 54 Balance sheet structures Debt service If a company is unable to pay interest on time and repay principal on the due dates it is technically insolvent and in the absence of understanding creditors, perhaps allowing refinancing, it may go bankrupt. The amount of debt and the rate of interest to be paid in relation to cash generated pre tax is obviously an important element here, and the interest coverage ratio is one way of setting a broad level of total debt at which, and given a level of forecasted cash flows, the company may adequately cover its interest payments.
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