Answer to Question #41861 in Other Economics for jayashree
What is meant by appropriate capital structure ? Discuss the determinants and features of an appropriate capital structure for a corporate body.
Appropriate capital structure refers to the way a corporation finances its assets through some combination of equity, debt, or hybrid securities. Capital Structure is referred to as the ratio of different kinds of securities raised by a firm as long-term finance.
Features and determinants of an appropriate capital structure for a corporate body:
1.Flexibility: The consideration of flexibility gives the finance manager the ability to alter the firm’s capital structure with a minimum cost and delay, if warranted by the changed environment. It should also be possible for the company to provide funds whenever needed to finance its profitable activities.
2.Profitability: A sound capital structure should permit the maximum use of leverage at a minimum cost so as to provide better profitability and thus maximizing earnings per share.
3. Solvency: Extensive debt threatens the solvency and credit rating of the company. The debt financing should be only to the extent that it can be serviced fully and also be paid back (if required).
4.Conservatism: No company should exceed its debt capacity. As already explained that the interest is to be paid on debt and the principal sum is also to be paid. These payments depend on future cash flows. If future cash flows are not sufficient then the cash insolvency can lead to legal insolvency.
5. Control: The capital structure should not lead to loss of control in the company.