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Capital Structure Decisions: Evaluating Risk and Uncertainty

Capital Structure Decisions: Evaluating Risk and Uncertainty

Yamini Agarwal

ISBN: 978-1-119-19914-4 October 2015 272 Pages

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Inside the risk management and corporate governance issues behind capital structure decisions

Practical ways of determining capital structures have always been mysterious and riddled with risks and uncertainties. Dynamic paradigm shifts and the multi-dimensional operations of firms further complicate the situation. Financial leaders are under constant pressure to outdo their competitors, but how to do so is not always clear. Capital Structure Decisions offers an introduction to corporate finance, and provides valuable insights into the decision-making processes that face the CEOs and CFOs of organizations in dynamic multi-objective environments.

Exploring the various models and techniques used to understand the capital structure of an organization, as well as the products and means available for financing these structures, the book covers how to develop a goal programming model to enable organization leaders to make better capital structure decisions. Incorporating international case studies to explain various financial models and to illustrate ways that capital structure choices determine their success, Capital Structure Decisions looks at existing models and the development of a new goal-programming model for capital structures that is capable of handling multiple objectives, with an emphasis throughout on mitigating risk.

  • Helps financial leaders understand corporate finance and the decision-making processes involved in understanding and developing capital structure
  • Includes case studies from around the world that explain key financial models
  • Emphasizes ways to minimize risk when it comes to working with capital structures

There are a number of criteria that financial leaders need to consider before making any major capital investment decision. Capital Structure Decisions analyzes the various risk management and corporate governance issues to be considered by any diligent CEO/CFO before approving a project.

Preface xi

Acknowledgments xv

Chapter 1: The CFO’s Role in the New Global Economy 1

The Decision-Making Process 2

Goals of a CFO’s Team 5

A CFO’s Constraints 6

Recent Issues in Capital Structure Decision Making 7

Summary 9

Chapter 2: Time Dimensions of Capital Structure Decisions 11

Sources of Funds 12

Cost of Funds 14

Cost of Loan Funds or Bonds 17

Summary 20

Chapter 3: Predicting and Evaluating a Firm’s Performance 21

Income Statement 34

Balance Sheet 35

Cash Flow Statement 36

Funds Flow Statement 36

Significant Accounting Policies and Notes to Account 36

Ratio Analysis 37

Predicting Bankruptcy 41

Summary 43

Chapter 4: Maximising Value with Capital Structure Decisions 45

Value-Based Management Framework 46

Valuations 46

Variations in Cost of Capital 49

Formula-Based Approaches to Valuation 50

Summary 56

Chapter 5: Risk Dimensions to Capital Choices 57

Capital Sources 60

Types of Risk and Their Measures 61

Capital Choices and Risk Management 62

Requirement for Equity Capital and Risk 64

Framework for Risk Management 65

Summary 66

Chapter 6: Role of Off–Balance Sheet Capital 67

Fixed-Asset Financing 68

Working Capital Financing Options 71

Effects on the Balance Sheet 82

Summary 84

Chapter 7: Innovations in Capital Structure 85

Forms of Financing 86

Financial Innovations 87

Summary 94

Chapter 8: Global Markets and Efficiencies in Capital Structure Decisions 95

Reasons for International Financing 96

International Bond Market 98

International Equity Market 99

Bank Loans 99

Financial Structure for a Global Firm 99

Doing Business in Select Countries: Political, Legal, Social, and Financial Aspects 100

Summary 125

Chapter 9: Theoretical Frameworks for Capital Structure Decision Making 127

Review and Synthesis of Theoretical Frameworks 127

Capital Structure Puzzles 131

Summary 138

Chapter 10: Strategic Determinants of Sources of Capital 139

Strategic Considerations 141

Mission and Vision 142

Strategic Targets and Objectives 144

Devising Strategic Capital 147

Motives for Issuing Equity 151

Motives for Issuing Debt 154

Motives for Issuing Foreign Debt 156

Motives for Issuing Convertibles 157

Factors Motivating Debt Maturities 158

Summary 160

Chapter 11: Economy-Driven Capital Structure Practises 161

Understanding Capital Structure Practises 161

A Firm’s Access to Capital and Business 165

Capital Structure Decisions in Emerging Economies 168

Financial Structures Linked to Global Development Indicators 172

Present Global Markets and Capital Choices 175

Summary 178

Chapter 12: The Role of a Decision Maker in Capital Structure Decisions 179

Revisiting the Decision-Making Process 181

The Goals of a Decision Maker 183

A Decision Maker’s Characteristics and Attributes Matter 185

Summary 190

Chapter 13: Behavioural Evidence of a CFO’s Decision-Making Process 193

The CFO’s Role in Indian Industry 194

CFOs’ Working Attributes for Capital Structure Decisions in India 197

CFOs’ Operational Aspects in the United States 200

Summary 203

Chapter 14: A Multiple-Objective Framework for Capital Structure Decisions: A Goal-Programming Approach to Decision Making 205

Evaluation of Mathematical Programming Techniques 206

Evaluation Techniques under Uncertainty 210

Model Specifications for Capital Structure Decision Making 214

Application of Goal-Programming Models for Capital Structure Decisions 216

Data Compilation for Model Development 217

Capital Structure Practises in India 219

Goal-Programming Model for Capital Structure Decisions Using Accounting Proxies 226

Case 1: α1 Co. (Alpha One Company) in the Agriculture Industry 227

Summary 236

References 237

About the Author 245

Index 247