Crafting a literature review on the topic of optimal capital structure is no small feat.

This complex
subject sits at the crossroads of finance and economics, requiring a nuanced understanding of both
theoretical perspectives and empirical evidence. The challenge lies not only in navigating through a
vast sea of academic papers and financial theories but also in synthesizing diverse viewpoints into a
coherent narrative.

The journey begins with understanding the foundational theories of capital structure, such as the
Modigliani-Miller theorem, which posits that, under certain conditions, the value of a firm is
unaffected by how it is financed. From there, one must delve into the nuances that real-world factors
introduce, exploring how market imperfections such as taxes, bankruptcy costs, and agency problems
can significantly alter a firm's optimal capital structure. This exploration requires a meticulous
examination of various models and theories proposed over the years, each attempting to capture the
complexities of financial decisions made by firms.

One of the most challenging aspects of writing a literature review on this topic is the critical analysis
of empirical studies. These studies often present conflicting findings due to differences in
methodologies, sample sizes, time periods, and geographic locations. A thorough literature review
must carefully compare and contrast these studies, identifying patterns, discrepancies, and areas
where the literature may be lacking or inconclusive.

Moreover, the fast-paced evolution of financial markets and instruments means that the literature is
constantly expanding, with new theories and evidence emerging. Keeping up to date with the latest
research is essential but can also be overwhelming, requiring continuous effort and dedication.

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A firm’s total cost of capital is a weighted average of the cost of equity and the cost of debt, known
as the weighted average cost of capital (WACC). Following is the graph paper which is taken from
Murray State University's website. PROTON, established in 1983, is Malaysia's largest manufacturer
of automobiles. For this reason, they accept a lower rate of return, and thus the firm has a lower cost
of capital when it issues debt compared to equity. The period of the study is 5 years (F.Y. 2009-10 to
F.Y. 2013-14). The study reveals that there is positive relationship between market capitalization and
profitability ratios of selected infrastructural companies during the period. Thus, the chief goal of
any corporate finance department should be to find the optimal capital structure that will result in the
lowest WACC and the maximum value of the company (shareholder wealth). What defines a healthy
blend of debt and equity varies according to the industries involved, line of business, and a firm's
stage of development, and can also vary over time due to external changes in interest rates and
regulatory environment. A major decision facing airline industry is to either purchase or lease an
aircraft. Plan as their good capital investment budgeting for future operations where it has. A
company's assets are its resources and property that can be quickly and easily transformed into cash.
These factors have an effect on the capital structure, particularly when the firm is trying to issue
additional capital. We also reference original research from other reputable publishers where
appropriate. Various researchers have studied this topic using different methodologies and have found
differing results, with some finding a positive relationship and others a negative relationship. It is one
of the important financing decisions of banks that is closely related to its survival. On the other hand,
if monetary policy is made more flexible, then businesses might choose to take out a greater number
of loans. This shows what the company’s credit rating would be if it was operating at its optimal
leverage ratio rather than actual. When capitalization in the institution is proper, the capital sources of
the institution do not remain idle and they are well utilized. In developed economies, employment is
dominated by service jobs and most new job growth comes from services. When in doubt and if you
have questions it is always the smartest idea to consult with a financial professional. Upload Read
for free FAQ and support Language (EN) Sign in Skip carousel Carousel Previous Carousel Next
What is Scribd. Since in the airline industry the most capital intensive asset is an aircraft, therefore.
As the leverage increases from 0% to 50%, the cost of debt and the cost of equity increase,
respectively, suggesting that investors require a higher return to undertake a higher risk. This
technical definition is not always used in practice, and firms often have a strategic or philosophical
view of what the structure should be. When we are speaking of debt and the effects of it on the
capital structure you will find that the top benefit is when the amount of debt is increased is that the
interest expense will reduce the amount of taxable income. When evaluating the optimal proportion
of debt to equity for their finances, businesses need to take into account their expected rates of
development as well. The optimal capital structure of a firm is often defined as the proportion of debt
and equity that result in the lowest weighted average cost of capital ( WACC ) for the firm. But
weighted average cost of capital will give more suitable result. Report this Document Download
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literature review examines the debate around the impact of capital structure on bank performance.
Various studies have been done by researchers to formulate the relationship between firm's financial
performance and market capitalization. The study revealed that all explanatory variables, except
Return on Capital Employed have positive significant effect on Tobin's Q.
An optimal capital structure may be difficult to attain depending on factors including a company's
size, industry, and stage of growth. Unlocking the Power of ChatGPT and AI in Testing - A Real-
World Look, present. So, for determining optimal capital structure, we have to follow following step:
1st Step: Find Different Capital Structure with Debt Equity Ratio Capital structure is the mixture of
capital and debt. When capitalization in the institution is proper, the capital sources of the institution
do not remain idle and they are well utilized. If a company raises too much capital during a given
time period, the costs of debt, preferred stock, and common equity will begin to rise, and as this
occurs, the marginal cost of capital will also rise. The pecking order theory focuses on asymmetrical
information costs. The success or failure of imperative decisions like mergers, acquisitions and
takeovers has great impact on the value of a company. The tools and techniques provided by group
decision support system improve the quality and effectiveness of the group meeting s. In the same
manner, placing an excessive amount of reliance on equity might result in ownership being diluted
and a decrease in profits per share. A very modest increase in the cost of these expenditures has the
potential to have a detrimental effect on both the firms' budgets and their levels of output. Equity
investors take more risk as they only receive the residual value after debt investors have been repaid.
Further, it evaluate the impact of Capital structure on profitability of the firm, the study find that
there is a significant impact of Capital structure on Firm's profitability except cost of capital and
firm's return. The Pixar Way: 37 Quotes on Developing and Maintaining a Creative Company (fr.
Firm age serves as control variable which is defined as firms' incorporated period. A capital structure
may be made more adaptable by issuing securities with redemption features, such as redeemable
preference shares or debentures. A large percentage change when speaking about the firm’s net
income can cause changes in the earnings per share while a small change in the operating income can
result in major changes in the reduction of net income. The value of two identical firms would remain
the same and value would not be affected by the choice of financing adopted to finance the assets.
Indistinguishable from Magic: How the Cybersecurity Market Reached a Trillion. Capital Structure
Financing assets with debt and equity. She is asked to create an optimal capital structure spreadsheet
that contains different leverage, interest expenses, tax expenses with a tax rate 35%, the cost of
debt, and the cost of equity. DMBs should ensure optimum mix of debt and equity in their capital
structuresto maximize financial performance. But when the risk of repayment of loan will increase
due to increasing debt resource and decreasing capital resource, both cost of capital and cost of debt
will increase. Specifically, Return on Capital Employed and firm age have insignificant effect on
Tobin's Q. Following is the graph paper which is taken from Murray State University's website. See
Full PDF Download PDF See Full PDF Download PDF Related Papers An Empirical Study on
Effect of Profitability and Market Value Ratios on Market Capitalization of Infrastructural
Companies In India Dr. Kapil Shrimal Market Capitalization represents the combined value of a
company's stock. To examine market capitalization is taken as a dependent variable and the
profitability ratios (GPM, NPM, ROCE, ROE and RONW) and market value ratios (EPS, PER and
DPR) variables are selected as independent variables. Asia and Australia, PROTON manufactures
cars to suit a range of consumer demands. In this example, since the optimal leverage ratio is higher,
it would yield to a lower credit rating. The default spread attached to the bond rating can then be
used for the spread above the risk-free rate of a AAA-rated company. Investopedia requires writers
to use primary sources to support their work.
The lower the cost of capital, the greater the present value of the firm’s future cash flows, discounted
by the WACC. Let's examine how he restructured his debt to pay for the firm's improvements and
achieve his target of a debt-to-equity ratio of 1. Investor Presentation Medirom Healthcare
Technologies Inc. Adam received his master's in economics from The New School for Social
Research and his Ph.D. from the University of Wisconsin-Madison in sociology. The truth is that the
corporate world is volatile and ever-evolving. So, for determining optimal capital structure, we have
to follow following step: 1st Step: Find Different Capital Structure with Debt Equity Ratio Capital
structure is the mixture of capital and debt. PROTON, established in 1983, is Malaysia's largest
manufacturer of automobiles. They will be able to help you through the tough questions and help to
get you on the road to financial success. If the criteria set out by SEBI are simpler, then businesses
could decide to raise extra capital via the issuance of securities. These dangers may be reduced to a
manageable level by implementing the necessary modifications to the various components of the
capital structure. But, if the firm fails to make its credit payments as agreed, the creditors have the
ability to remove the current management and seize control of the company. Subscribe Now Related
PowerPoint Templates Deloitte Governance Framework Model PowerPoint Template Dark Blue
Curved Wave PowerPoint Background Whale Curve Customer Profitability PowerPoint Template
Financial Cash Flow KPI PowerPoint Template. Investopedia requires writers to use primary sources
to support their work. It was observed that capital structure has direct impact on financial
performance ofDeposit Money Banks (DMBs). They also have to take into account the signals their
financing decisions send to the market. The period of the study is 5 years (F.Y. 2009-10 to F.Y. 2013-
14). The study reveals that there is positive relationship between market capitalization and
profitability ratios of selected infrastructural companies during the period. The following are some of
the yearly liabilities that are currently held by the company. So, Aditya has now arrived at the ideal
capital structure for Tinfoil by expanding the firm's mortgages in order to fund the many projects
being undertaken by the company. In this example, since the optimal leverage ratio is higher, it would
yield to a lower credit rating. They are designed in such a way that they take input from multiple
users interacting simultaneously with the systems to arrive at a decision as a group. The data were
analyzed using descriptive statistics and regression. Loans, costs, taxes, and warranties are some
examples of liabilities. Plan as their good capital investment budgeting for future operations where it
has. Asia and Australia, PROTON manufactures cars to suit a range of consumer demands. The cost
of debt is less expensive than equity because it is less risky. Investopedia is part of the Dotdash
Meredith publishing family. For this purpose 18 cement manufacturers out of 21 are incorporated in
the study and six years annual data from 2005 to 2010 regarding financial leverage and profitability
of the said firms were taken into consideration. Equity capital is regarded as holy and may not be
lowered unless in compliance with the rules of the Companies Act of 1956. Thus, the objective of the
study is to know one of the internal measures, which can influence the market capitalization of
Indian infrastructural companies. It includes the use of both debt and equity to support the firm and
may have a significant influence on the profitability of any organization.
According to Modigliani and Miller, a company's value may be determined independently of the
kind of financing that it employs and the investments that it makes. A capital structure may be made
more adaptable by issuing securities with redemption features, such as redeemable preference shares
or debentures. Below is an illustration of the dynamics between debt and equity from the view of
investors and the firm. However, the tax benefit of the added debt more than offsets the increase in
the WACC, as seen in the increase in the net tax benefit of debt. They will be able to help you
through the tough questions and help to get you on the road to financial success. RM480 million in
its Passenger Services System (PSS) over 10 years, which will give. It is assumed that capital
accumulation can facilitate faster rate of economic growth. Debt is also cheaper than equity because
companies get tax relief on interest, while dividend payments are paid out of after-tax income. The
required return needed to compensate debt investors is less than the required return needed to
compensate equity investors, because interest payments have priority over dividends, and debt
holders receive priority in the event of a liquidation. A major decision facing airline industry is to
either purchase or lease an aircraft. The growth of stock market is measured by its total market
capitalization. The study finds that financial leverage has a statistically significant inverse impact on
profitability at 99% confidence interval. While the Modigliani-Miller theorem is studied in finance,
real firms do face taxes, credit risk, transaction costs, and inefficient markets, which makes the mix
of debt and equity financing important. They also compare the amount of leverage other businesses
in the same industry are using—on the assumption that these companies are operating with an
optimal capital structure—to see if the company is employing an unusual amount of debt within its
capital structure. So, Aditya has now arrived at the ideal capital structure for Tinfoil by expanding
the firm's mortgages in order to fund the many projects being undertaken by the company. Thus,
companies have to find the optimal point at which the marginal benefit of debt equals the marginal
cost. Companies with consistent cash flows can tolerate a much larger debt load and will have a
much higher percentage of debt in their optimal capital structure. Definition of Service Marketing:
Service marketing is marketing based on relationship and value. Equity shareholders not only
diminish the ownership position of existing owners in the firm but also have the power to vote for
and nominate directors. But weighted average cost of capital will give more suitable result. To
examine market capitalization is taken as a dependent variable and the profitability ratios (GPM,
NPM, ROCE, ROE and RONW) and market value ratios (EPS, PER and DPR) variables are
selected as independent variables. The optimum point in Panel C is the same optimum debt ratio as
in Panels A and B. The following are some of the yearly liabilities that are currently held by the
company. The present study is focused to find an effect of profitability ratios and market value ratios
on market capitalization. Plan as their good capital investment budgeting for future operations where
it has. Javatpoint provides tutorials with examples, code snippets, and practical insights, making it
suitable for both beginners and experienced developers. So, we will calculate WACC which is also
average cost of capital but we take the product of cost of capital and debt equity ratio. On the other
hand, equity shares are preferred during market upturns because investors are willing to incur greater
risk in exchange for higher dividend payouts. Occasionally a corporation may produce a substantial
profit, but it will be unable to create enough cash flow to cover its payment obligations. A firm’s
total cost of capital is a weighted average of the cost of equity and the cost of debt, known as the
weighted average cost of capital (WACC).
Making an Optimal Capital Structure Curve was never easier, as the sample diagrams n this template
can be edited right down to basic objects; with the utility to rearrange lines and curves to create
custom diagrams with ease. Equity capital is regarded as holy and may not be lowered unless in
compliance with the rules of the Companies Act of 1956. But weighted average cost of capital will
give more suitable result. If the firm adds debt to its capital structure, the value begins to rise and
eventually reaches a peak. RM480 million in its Passenger Services System (PSS) over 10 years,
which will give. When in doubt and if you have questions it is always the smartest idea to consult
with a financial professional. Elo’s result 2023: Return on investment increased to 6 per cent and cost
effi. She is asked to create an optimal capital structure spreadsheet that contains different leverage,
interest expenses, tax expenses with a tax rate 35%, the cost of debt, and the cost of equity. A very
modest increase in the cost of these expenditures has the potential to have a detrimental effect on
both the firms' budgets and their levels of output. PROTON, established in 1983, is Malaysia's largest
manufacturer of automobiles. However, if the net tax benefit of debt is still positive after accounting
for changes in the WACC, firms should adjust leverage. On the other hand, if monetary policy is
made more flexible, then businesses might choose to take out a greater number of loans. Our findings
anlayze the discounted cash flow valuation method. Groupware and web-based tools for electronic
meetings and videoconferencing also support some of the group decision making process, but their
main function is to make commun ication possible between the decision makers. On the other hand,
equity is equal to the value of all assets minus the value of all liabilities. Indistinguishable from
Magic: How the Cybersecurity Market Reached a Trillion. What is the optimal level of debt a bank is
willing to lend. Palo Alto Software 9 Tips for a Work-free Vacation 9 Tips for a Work-free Vacation
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field. Firm age serves as control variable which is defined as firms' incorporated period. They are
often extremely big corporations that engage in endeavors with a long time horizon with the hopes of
generating a return at some point in the future. On the other hand, if the return on investment is lower
than the rate of interest that must be paid on its debt, the company should steer clear of debt and rely
instead on equity capital. The study finds that financial leverage has a statistically significant inverse
impact on profitability at 99% confidence interval. For this reason, they accept a lower rate of return,
and thus the firm has a lower cost of capital when it issues debt compared to equity. Further, it
evaluate the impact of Capital structure on profitability of the firm, the study find that there is a
significant impact of Capital structure on Firm's profitability except cost of capital and firm's return.
If there is lowest risk, both cost of capital and cost of debt will low. If a company's return on
investment is higher than the rate of interest that must be paid on its debt, the company should
prioritize debt in its capital structure. A major decision facing airline industry is to either purchase or
lease an aircraft. The study revealed that all explanatory variables, except Return on Capital
Employed have positive significant effect on Tobin's Q. This proposition says that the financial
leverage boosts the value of a firm and reduces WACC. Besides his extensive derivative trading
expertise, Adam is an expert in economics and behavioral finance.