Capital Structure and Agency Theory
1.0 Introduction
The maximization of the company’s value has long been the objective of financial management. In order to create more value for business organizations, how to comprehensively make the most effective investment, financing and operating decisions becomes more crucial. Among these decisions, the optimization of capital structure has a great influence on the performance of the companies, for a reasonable capital structure can decrease the financing cost, take advantage of the financial leverage and play an important role in corporation governance. Given the importance of capital structure, this essay will firstly discuss the ways that capital structure affects corporation value, then it will introduce the influencing factors of capital structure and how to effectively manage it. Due to the conflicts among the debtors, managers and shareholders etc, this essay will also illustrate the agency problems that are existed in the companies and evaluate the role of effective financial management in addressing these problems.
2.0 The ways that capital structure affects corporation value
The capital structure is refered to the allocation between the long-term debt and equity, which determines the solvency and refinancing ability of the company to a large extent. While the optimum capital structure is the capital structure that can maximize the wealth of shareholders or bring about the least capital cost. It is necessary to manage the capital structure effectively, for a reasonable capital structure can maximize the value of a company through a series of approach. According to a series of capital structure theories, the way that capital structure affects corporation value can be described from different perspectives (Margaritis, D. & Psillaki, M. 2010).
2.1 Form the perspective of capital cost
The traditional Net Income Theory holds the view that due to the lower debt cost compared to the equity cost, the increase of debt ratio in the capital structure can
The maximization of the company’s value has long been the objective of financial management. In order to create more value for business organizations, how to comprehensively make the most effective investment, financing and operating decisions becomes more crucial. Among these decisions, the optimization of capital structure has a great influence on the performance of the companies, for a reasonable capital structure can decrease the financing cost, take advantage of the financial leverage and play an important role in corporation governance. Given the importance of capital structure, this essay will firstly discuss the ways that capital structure affects corporation value, then it will introduce the influencing factors of capital structure and how to effectively manage it. Due to the conflicts among the debtors, managers and shareholders etc, this essay will also illustrate the agency problems that are existed in the companies and evaluate the role of effective financial management in addressing these problems.
2.0 The ways that capital structure affects corporation value
The capital structure is refered to the allocation between the long-term debt and equity, which determines the solvency and refinancing ability of the company to a large extent. While the optimum capital structure is the capital structure that can maximize the wealth of shareholders or bring about the least capital cost. It is necessary to manage the capital structure effectively, for a reasonable capital structure can maximize the value of a company through a series of approach. According to a series of capital structure theories, the way that capital structure affects corporation value can be described from different perspectives (Margaritis, D. & Psillaki, M. 2010).
2.1 Form the perspective of capital cost
The traditional Net Income Theory holds the view that due to the lower debt cost compared to the equity cost, the increase of debt ratio in the capital structure can
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