Debt and Equity in Capital Structure

Topics: Finance, Debt, Capital structure Pages: 12 (4806 words) Published: June 7, 2013
1.0 INTRODUCTION
This report is specifically centered as a financial report. In general, a financial report is a report which touches upon the financial statements, activities or terms of a person, business, company, organization or nation. In finance, who owns a business firm? The shareholders are individuals who have bought shares of stock, which indicate ownership in the firm. Even if your business is a one-person shop, you are the shareholder. If the business is a huge conglomerate, then it has a Board of Directors made up of the shareholders who own shares of the firm based on how much money they have invested. Because the shareholders own the firm, they are entitled to the profits of the firm. Thus the general aim of a company is not only to maximize profits but to maximize shareholders’ wealth. One of the ways of maximizing shareholders’ wealth is to make appropriate and the correct decisions on investment and financing capital as well as focusing on the correct financial decisions. The main objective of this report is to examine the two major segments in finance which are capital structure decisions and financing sources. This report is broken down into 5 very specific areas of the 2 main segments, which are capital structure decisions and financing sources. The first section of this report touches upon the definitions of debt, equity as well as the definition of capital structure. The report also provides an in depth view of the pros and cons of debt and equity. All of this is done to better understand the importance of studying the debt and equity structure of a company. The second part of this report centers on the definition of a startup company as well as the determinants of a capital structure of these startup companies. The importance of the Modigliani – Miller (MM) Theory is undeniable. It has influenced many financial aspects and financial theories in the world. Thus this report also touches upon the MM Theory in the third part of this report. The report touches upon the MM Theory via a definition, and the argument of how relevant it is in the world today despite its importance in the past. The fourth part of this report goes into the details of the determinants of capital structure decisions of companies in Malaysia. Five determinants were identified and discussed on in detail. The final part of the report focuses on which is more preferable for companies in developed and developing economies; debt or equity? 2.0 Question 1– Debt and Equity in Capital Structure

Definition of Debt:
Debt can be defined or classified as the amount that one party (the debtor) comprised of a corporation, organization, business or an individual owes to another party (the creditor). A debt is occurred or happens usually when a creditor agrees to a contract of lending a particular sum of assets to a debtor. In financial terms, a debt is a method of using predicted future purchasing power in the present before it has been earned. Before a debt agreement can be made between a debtor and a creditor, the method of which the debt is repaid must be determined by the creditor. This is also known as the standard of deferred payment. Definition of Equity:

Equity can be basically defined as the assets that are owned after the debts that are related to those particular assets have been paid off. For example, a property or a vehicle that has had all of its debt cleared is considered the owner’s equity, simply because he or she can immediately sell his or her asset for a particular sum of cash. In short, in an accounting context, Shareholders' equity (or stockholders' equity, shareholders' funds, shareholders' capital or similar terms) is the outstanding interest in assets of a corporation, extended among individual shareholders of a common or preferred stock. Pros and Cons of Debt:

The major advantage an organization can gain from a debt financing is it allows the founders to retain ownership of the organization or company. Basically...


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E. Stiglitz, J. (1969) A Re-Examination of the Modigliani-Miller Theorem. The American Economic Review, 59 (5), p.784-793.
Giesecke, K. and R. Goldberg, L. (2004) In Search of a Modigliani - Miller Economy. Journal of Investment Management, 2 (3), p.1-5. Available at: http://www.barra.com/support/library/credit/modigliani-miller.pdf [Accessed: 11 Apr 2013].
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