The effect of leverage on cost of capital and market value of the firm, two additional concepts are useful in the formulation of an optimum capital structure. A company’s capital structure — essentially, its blend of equity and debt financing — is a significant factor in valuing the business the relative levels of equity and debt affect risk and cash flow and, therefore, the amount an investor would be willing to pay for the company or for an interest in it. Relationship between capital structure and firm performance from the agency cost theory perspective using nigerian date this study seeks to provide answer to the question, “does capital structure affect financial.
Factors that can affect cost of capital below are a list of factors that might affect the cost of capital capital structure because of tax advantages on debt issuance, it will be cheaper to issue debt rather than new equity (this is only true for profitable firms, tax breaks are available only to profitable firms). How capital structure affects company cost of capital the impact of the mm-theory on company cost of capital can be illustrated graphically figure 9 assumes that debt is essentially risk free at low levels of debt, whereas it becomes risky as the financial leverage increases.
A firm's capital structure is the composition or 'structure' of its liabilities for example, a firm that has $20 billion in equity and $80 billion in debt is said to be 20% equity-financed and 80% debt-financed.
As we have been discussing above, a firm has control over its capital structure, targeting an optimal capital structure as more debt is issued, the cost of debt increases, and as more equity is.
As modiglini and miller theory stated that the optimal capital structure will exist where the cost of capital or weigh average cost of capital (wacc) minimize and the total market value of the firm maximize.