Class 12 Business Studies - Chapter Financial Management NCERT Solutions | What are the factors that influence a co
What are the factors that influence a company’s capital structure? Discuss in detail.
Several factors influence a company’s decision on capital structure:
- Cost of debt vs. cost of equity: Debt is usually cheaper because of tax benefits, but it increases financial risk. Equity is costlier but involves less risk.
- Company’s cash flow: A company with strong cash flow can afford to take on more debt.
- Debt service coverage ratio (DSCR): A high DSCR indicates that the company can comfortably meet its debt obligations, encouraging the use of debt.
- Market conditions: Favorable stock market conditions may prompt a company to issue more equity, while poor conditions may lead to more debt financing.
- Interest coverage ratio: This measures the company's ability to pay interest on its debt. A higher ratio reduces the risk of using debt.
- Floatation costs: The costs of issuing new securities, especially equity, can discourage the company from raising funds through equity.
- Control considerations: Issuing more equity can dilute the control of existing shareholders, while debt financing allows the current owners to retain control.
More Questions From Class 12 Business Studies - Chapter Financial Management
- Q:-
Sunrises Ltd. dealing in readymade garments, is planning to expand its business operations in order to cater to international market. For this purpose the company needs additional ₹ 80,00,000 for replacing machines with modern machinery of higher production capacity. The company wishes to raise the required funds by issuing debentures. The debt can be issued at an estimated cost of 10%. The EBIT for the previous year of the company was ₹ 8,00,000 and total capital investment was ₹ 1,00,00,000. Suggest whether issue of debenture would be considered a rational decision by the company. Give reason to justify your answer. (Ans. No, Cost of Debt (10%) is more than ROI which is 8%).
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Aval Ltd. is engaged in the business of export of canvas goods and bags. In the past, the performance of the company had been upto the expectations. In line with the latest demand in the market, the company decided to venture into leather goods for which it required specialised machinery. For this, the Finance Manager Prabhu prepared a financial blueprint of the organisation’s future operations to estimate the amount of funds required and the timings with the objective to ensure that enough funds are available at right time. He also collected the relevant data about the profit estimates in the coming years. By doing this, he wanted to be sure about the availability of funds from the internal sources of the business. For the remaining funds, he is trying to find out alternative sources from outside.
a. Identify the financial concept discussed in the above paragraph. Also, state the objectives to be achieved by the use of financial concept so identified. ( Financial Planning).
b. ‘There is no restriction on payment of dividend by a company’. Comment. ( Legal & Contractual Constraints)
- Q:-
Ramnath is into the business of assembling and selling of televisions. Recently he has adopted a new policy of purchasing the components on three months credit and selling the complete product in cash. Will it affect the requirement of working capital? Give reason in support of your answer.
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Amrit is running a ‘transport service’ and earning good returns by providing this service to industries. Giving reason, state whether the working capital requirement of the firm will be ‘less’ or ‘more’.
- Q:-
‘S’ Limited is manufacturing steel at its plant in India. It is enjoying a buoyant demand for its products as economic growth is about 7–8 per cent and the demand for steel is growing. It is planning to set up a new steel plant to cash on the increased demand. It is estimated that it will require about `5000 crores to set up and about `500 crores of working capital to start the new plant.
a. Describe the role and objectives of financial management for this company.
b. Explain the importance of having a financial plan for this company. Give an imaginary plan to support your answer.
c. What are the factors which will affect the capital structure of this company?
d. Keeping in mind that it is a highly capital-intensive sector, what factors will affect the fixed and working capital. Give reasons in support of your answer. - Q:-
What are the main objectives of financial management? Briefly explain.
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Explain the factors affecting dividend decision?
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What is financial risk? Why does it arise?
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“A capital budgeting decision is capable of changing the financial fortunes of a business.” Do you agree? Give reasons for your answer?
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“Capital structure decision is essentially optimisation of risk-return relationship.” Comment.
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