Capital Structure Templates
Capital Structure Templates and Excel Models
What is Capital Structure
Capital structure is the proportion of debt and equity capital used to finance its assets, capital expenditures, acquisitions, investments, and daily operation. A common way to express the capital structure is by using leverage ratios such as the debt-to-equity ratio and debt-to-capital ratio.
Optimal Capital Structure
There are trade-offs between raising debt and equity to fund the business, and companies need to determine the optimal capital structure based on several criteria:
1. Weighted average cost of capital (WACC): WACC is the minimum rate of return a company must earn before generate value. This rate is calculated using a blended cost of capital across all sources including common shares, preferred shares, and debt. An optimal capital structure should result in the lowest WACC for the firm.
2. Risk and expected return: Debt investors expect a lower rate of return compared to equity investor for the lower risk they have to take. A firm has a lower cost of capital when it issues debt. On the other hand, equity investors take more risk because they only receive the residual value after debt investors claim their portion. Equity investors receive a higher rate of return, resulting in a great implied cost of equity when company issues equity than debt.