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COST OF CAPITAL
Financial Gearing
• The level of debt within a company. It is a measure of financial
leverage (showing the degree to which a company’s operations
are funded by debt).
A highly geared company = a company with a lot
of debt!!
• Capital structure = The relationship between debt and equity in
financing the assets of the company.
• Refer to analysis of financial information (ratios) for important
capital structure ratios.
Is debt good / bad???
• The cost of debt (Kd) is lower than the cost of equity (Ke) due to
lower risk, lower expected returns and tax advantages.
• However, the debt brings financial risk into the company’s
financial structure which increases the required return of
ordinary shareholders (Ke) and debt providers (Kd).
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