A firm's capital structure can significantly affect the firm's value by affecting its risk and return.

Question

Quizplus · Accepted Answer

The firm's capital structure, or the way it finances its operations through a combination of equity, debt, and other securities, can impact the firm's risk and return. For example, a higher proportion of debt in the capital structure can increase the firm's financial risk, as the company would have to pay fixed interest payments regardless of its profitability. On the other hand, a higher proportion of equity can reduce the financial risk and increase the company's flexibility in raising capital, although it may dilute the ownership stake of existing shareholders. Ultimately, the choice of the capital structure can impact the firm's cost of capital, weight on the WACC calculation, and the overall value of the firm.

A Firm's Capital Structure Can Significantly Affect the Firm's Value