Optimal capital structure

optimal capital structure denotes the division of the Total assets on equity and debt. Capital structure indicators are the level of indebtedness, defined as the ratio of equity and borrowed funds, and the equity ratio, defined as equity to total capital.
Capital structure decisions are made as part of long-term financial planning following the forecast of the capital requirement (capital requirement planning). It is advisable to set a long-term target, which then serves as a guideline for long-term and short-term financing policy. It seems understandable that this goal is never exactly met because the funds are usually raised in large parts / amounts. Whether you have equity on the stock exchange or the inclusion of new shareholders in partnerships, debt capital through the bank or the Capital market procured, it will always make sense to choose larger amounts in order to keep emissions (emissions policy), contract and credit costs (of the investor) low.

Even if the capital structure target can only be "circulated in an oscillating manner", one should be defined and periodically reviewed. The decisive factor here are the capital costs, which should be minimized. In addition, the violation of financing and liquidity rules that are effective through loan agreements, (insurance) laws or uncoded (e.g. golden balance sheet rule) must be avoided at all costs.

The theoretical impact analysis shows under unrealistic assumptions that changes in the capital structure do not affect the overall value of a company. It is true that the equity providers' demands for returns rise with the increasing level of indebtedness. At the same time, however (with constant total capital requirements) the economic risk shifts to fewer and fewer own funds; the financial risk, known as leverage risk, increases. Modigliani / Miller have shown that these two effects, the shifting of risk to less and less capital and the resulting higher return demands, exactly compensate each other. The average cost of capital from dividends and interest therefore remains constant.
The irrelevance of the capital structure decision cannot apply in practice. Two factors in particular lead to unequal cost influences of the types of capital. In the federal German tax system, borrowed capital is generally less burdened. Discriminatory tax types are trade income and capital taxes. In corporations, wealth tax leads to a further disadvantage of equity. In the opposite direction, however, insolvency costs are growing. Since, by definition, a purely self-financed company cannot go bankrupt, the costs are also zero. From the behavior of banks to only grant loans up to a certain level of indebtedness, it can be concluded that the costs of insolvency initially rise weakly as the equity ratio falls and then rise steeply. As a result, they only become a decisive factor with higher levels of indebtedness.

For capital structure decisions by (German) companies, a level of indebtedness is recommended that is as close as possible to the maximum tolerated by banks. Here one realizes the greatest possible tax savings in an area with moderate potential insolvency costs.

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