ACF 5: Capital Structure & Corporate strategy

Stakeholder theory

Looking beyond just maximising company value for shareholders, firm needs to take into account non-financial stakeholders in deciding optimal capital structure

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Power of non-financial stakeholders e.g. Norther Rock/ Chrysler

1) NR:announced business as usual (+ve) but BBC announced BoE assistance (-ve) = liquidity crisis/ 2) Chrysler gov intervention (-ve) + has to offer rebates on cars (cost of financial distress)

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Cost of financial distress to non-financial stakeholders

1) Quality perceived (quality unknown, high debt = perceived low quality) 2) Unable to attract + retain capital (wages/ workforce size) 3) Lack of business from stakeholders (strain to honour implicit contracts)

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Financial distress (high debt/ equity levels) is more costly for...

1) Product where quality is important but unobservable 2) Products requiring future servicing 3) Employees + suppliers requiring specialised capital/ training

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Increasing debt affects competitive strategy depending on...

1) The industry 2) How others interpret the signal

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Highly levered firms competitive strategy in uncertain industry

AIMS FOR... aggressive/ risky strategy (expanding production decreases competition) IN REALITY... less aggressive/ safer strategy (financing constraints)

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Competitors of highly levered firms take advantage

SHOULD... accommodate + decrease production (highly levered firms tendency to take high risks) REALITY... ignores + increases supply = lowers prices (knowing financial constraints of highly levered firm) + pushes them out of the market

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Increasing debt effect on: total assets/ MV/ Book Value/ Durables/ NCA/ Unionisation/ Firm Size

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ACF 5: Capital Structure & Corporate strategy

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