Question

Provide an example/scenario How would a financial manager determine optimal capital structure? How this would fit in with the company's capital expenditures, growth plans and operating results?

Answer 1

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Answer:

The capital structure of a company is the combination of the different components of capital. The capital structure of a company is made up several types of capital like debt, equity, preferred equity, retained earnings etc. All these sources of capital have their own set of pros and cons. The company decides the optimal capital structure as the perfect combination of the different sources of capital. The optimal capital structure is the best debt equity ratio that maximizes the value of the company. The capital structure of a company should be in sync with the capital expenditures that they will have to incur. The company will also have some growth plans that will require certain expenditures. The capital structure of a company has to be in accordance with the expenditure and the growth plans. For example: if a company has long term growth plans then the long term debt component of the capital structure can be more. Apart from the various sources of capital, the company will be earning some money through its operating activities. The company should plan its capital structure such that the needs of the company are met including the operating income.