Core Topic 5: Capital Structure
Capital Structure Analysis – Due July 11th at the beginning of class – Email me your Memo and Spreadsheet and hand in your
printed memo and spreadsheet (if required) before 6PM. Your paper is late if it is not emailed by 6:00 on the day that
it is due and will be penalized 1 point for every minute it is late. Papers are not accepted after midnight on the due
date. If you do not hand in a hard copy, you will be penalized 5 points.
You will find or calculate each value for your company and for your company’s industry. Find the industry data in the spreadsheet
by following this link: http://pages.stern.nyu.edu/~adamodar/New_Home_Page/datafile/dbtfund.html
Follow this link to find out you company’s industry:
http://pages.stern.nyu.edu/~adamodar/New_Home_Page/databreakdown.html#industry (click on the link on the page.)
Explanation of Data
Market Debt
to Capital
(unadjusted)
Interpretation Degree of
leverage
based on
market
value
High Debt
Expected
relative value
Low Debt
Expected
Relative
Value
Effective Tax
Rate
Std Dev in
Stock Prices
EBITDA/Value
Value of tax
benefit. The
debt tax
shield is
more
valuable for
companies
with a high
tax rate.
High value
Risk –
companies in
industries
with high
business risk
want to keep
financial risk
low
Low Value
Earnings
available. Two
ways to think of
this: 1. Earnings
available to pay
debt
2. Ability to meet
capital needs
without debt.
High or Low
Low value
High Value
High or Low
Fixed
Assets/Total
Assets
Collateral.
Companies that
tend to have a
lot of fixed
tangible assets
tend to have
high debt
Capital
Spending/Total
Assets
Need for debt to
invest in capital
projects.
Companies with
abundant growth
opportunities
need more
capital.
High
High
Low
Low
Your Company’s Data
1.
2.
3.
4.
5.
Debt/Capital - Measures the amount of debt relative to total capital investment. You calculated this in Core Topic 3 – WACC.
Effective tax rates – provides information about the value of the tax shield - the higher the tax rate, the greater the value of the
tax shield which would indicate more debt. You calculated this in Core Topic 3 – WACC.
Standard Deviation – Risk measure, the greater the risk, the more uncertainty about the ability to meet fixed expenses, also
means a higher level of business risk. Higher risk should lead to lower relative leverage. For your company’s standard
deviation download 5 years of weekly prices. In Excel, sort from oldest to newest. Calculate weekly returns. Use function
STDEV to find the standard deviation of those returns. Annualize the standard deviation by multiplying the weekly return by
15.87451.
Fixed Assets/Total Assets – companies with a larger amount of fixed assets typically have more debt. For one thing, fixed assets
can be used for collateral. Calculate this using your financial statements from Case 1.
EBITDA/Value – available cash flows from operations – a higher percentage means there is more operating income to pay
toward fixed debt expenses, however, it can also indicate a lower need for debt because there are more cash flows available for
capital investment (greater retained earnings). For your company’s EBITDA/Value, Calculate EBITDA/Total Assets using your
financial statements from Case 1.
6.
Capital Spending/Total Assets – Indicates the capital need of the company. A company that tends to have more capital
investment has a greater need for capital. A larger percentage can indicate a greater investment in growth.
For your company’s Capital Spending/Total Assets, find your company’s Cash Flow Statement. Find “Capital Expenditures” for
the most recent year. (You will see a negative number here. This is as expected because capital spending is an outflow. For
your computations, ignore the negative sign.) Find Total Assets on the balance sheet.
Market Debt
to Capital
(unadjusted)
Effective
Tax Rate
Std Dev in
Stock
Prices
EBITDA/Value Fixed
Assets/Total
Assets
Capital
Spending/Total
Assets
Industry:
Your
Company:
“Memo”
For each value, compare your company to the industry, total market, low-debt firms, high-debt firms. Discuss the ways
in which your company’s capital structure is explained (or not) by each variable. Determine the dominant driving factor
for company’s capital structure.
Market Debt to Capital (Unadjusted)
Effective tax rate
Std dev in Stock Prices
EBITDA/Value
Fixed Assets/Total Assets
Capital Spending/Total Assets
Conclusion: What do you see as the primary driving factor or factors in your company’s capital structure decision? What is your
assessment of your company’s capital structure? Do you recommend an increase or decrease in debt? Explain. Support your
recommendation with details from your analysis.
Note: Submit in Memo format. (Exclude all instructions, but you may keep the tables if you like.) I expect that all of
your data and computations are in your case workbook (all of your case spreadsheets should be on separate worksheets
in one Excel workbook.) You do not need to print a spreadsheet, but please email your spreadsheet with your memo so
that I can reference your computations, if needed.