Question

explain Capital structure decision is essentially for optimisation of risk relationship. reasons
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Answer 1

hey!

______

✌Answer:-

___________

✌when Cost of debt is lower than cost of equity for a firm because lender’s risk is lower than equity shareholder’s risk.

✌because lenders return repayments

so, they should required a lowr rate return.

✌Debt is cheaper but is more risky for a business because payment of interest and the return money for the business.

✌so, we can say that There is no compulsion in case of equity. which is considered riskless for the business.

hope.it can help u!!

Answer 2

Capital structure decision is related to proportion

of debt and equity in the capital structure. What proportion is maintained, decides the cost and risks.

This is because both equity and debt differ significantly in their risk and returns.

(i) On one side, equity is a riskless source, but it has no benefit of tax deductibility of dividend, and dividends are paid out of profits after tax.

(ii) On the other hand, debentures are paid fixed rate of interest, the interest paid are deductible from the income for tax calculation purposes. Thus, it creates a higher rate of return for equity shareholders.

However, debt is more rewarding in terms of increase in the wealth of shareholders, but increases the risk too. Thus, reckless use of debt also is unfavourable and sometimes, may even force the company to go into liquidation. Thus, capital structure should be so formed, which optimises the risk-return relationship.