The Cost of Capital
Capital - refers to money or property placed
by the investor to start or continue
operations.
-​ Resources of business to start the
operations of the business
Sources of Financing:
Credit - is an arrangement to receive cash,
goods or services now and pay for them
later (buy now, pay later)
SHORT-TERM - payable in one year
(working capital)
-​ Utilize to finance working capital or
day to day operations on the firm
-​ Gamay ang amount, pero dako ang
interest, dali lng sya mabayaran kasi
malaki ang principal
LONG-TERM - payable for more than one
year (long-term projects)
-​ Utilize for long-term projects
(expansion, erect a bldg)
Basic strategies used in financing:
●​ Maturity matching principle
○​ Short term financing for short
term needs
○​ Long term financing for long
term needs
●​ Stretching of payables
○​ Ex: utilities
○​ Rolling over the money para
madaghan, pag enough na,
magbayad na sya
○​ You will pay the moment you
receive the notice
●​ Flexibility in the utilization of cash
○​ Long term financing for short
term needs, vice versa
○​ By acquiring an equipment
●​ Debt refinancing
○​ Mag utang para pangbayad
ug utang
Equity - ownership in a corporation (divided
into units: shares or stocks)
●​ Common shares or ordinary shares
○​ Voting rights
○​ Allowed to operate in a
business if you have major
share (has a role in
management)
○​ Last during corporate
liquidation
○​ More volatile - dili sya fixed
○​ DA: If the org issues too
much shares, you will
overpower yung may existing
major share
●​ Preferred shares or preference
shares
○​ Given preference during
corporate liquidation
○​ Dawat limpyo (wala kay
pulos in management
decisions)
○​ DA: Not allowed to vote
○​ DA: Fixed rate of dividend
■​ High dividends if
preference shares
carry a higher rate of
dividend
○​ DA: Not allowed to operate in
a business (no role in
management)
Bankruptcy - due to inability to meet its
financial obligations
-​ that is why firms must be very
careful in considering how much
debt to use in financing their
operations
-​ Di maiwasan mag gamit ng utang,
but org must be careful to utilize
debt to support financing their
operations.
Some of the central and most difficult
questions in the modern theory of finance
concerns with the choice of an optimal
capital structure for the firm.
-​ Acquire debt - at least pag
mangutang ka then after 3 years
humana na, wala na kay obligations
-​ If equity - forever ka mag pay ug
dividends
Optimal Capital Structure
-​ The best debt to equity ratio for a
firm that maximizes its value
-​ Debt financing generally offers the
lowest cost of capital due to its tax
deductibility
-​ Company’s risk generally increases
as debt increases.
WACC
-​ Used to determine the optimal
capital structure
-​ Tells us the firm’s overall cost of
capital is a weighted average of the
costs of the various components of
the firm’s capital structure.
The value of the firm is maximized when
the WACC is minimized.
-​ Choose the capital structure with the
lowest WACC, pero consider
gihapon and debt and equity ratio
(which is the least amount of debt)
-​ For example, number 5 has the
lowest WACC however the debt
equity ratio is 60% for debt, 40% for
equity