Capital Structure and Cash Flows
On one hand, operations of the company may help in forecasting of future cash flows but in addition to this, future cash inflows and outflows can also be accessed through company capital structure. A corporation may use different combinations of equity, debt, or mixture of securities to finance its assets which are termed as Capital Structure. Company’s capital structure is basically the composition of its liabilities i.e. how much the company owes to its shareholders and how much to its creditors.
Stakeholders can easily judge the management’s mindset, the strategy of running business and business’s future prospects. A company’s value is affected by the capital structure it employs, therefore; while deciding capital structure, management has to consider different important factors like bankruptcy costs, agency costs, taxes, and information asymmetry.
For example, if a company sells $100 billion in equity and $300 billion in debt, it is said to be 25% equity-financed and 75% debt-financed. The Company’s ratio of debt to total financing, 75% in this example is referred to as the company’s leverage. The capital structure may be highly complex and may include other sources of finances like short-term loans, coalition etc.
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