In order to relate to the effects of the capital structure in a summarize manner, table 18.6 symbolize a summary of the same. Talking about equity and debt, there are four major forces that pull the firm towards equity and 3 major forces pulling towards debt.
4 major forces are agency issues which are uncontrollable, income taxes personals, expropriation of debt, costs towards financial distress.
And 3 major sources towards debt are corporate income taxes, confliction of mitigating agencies and issues with inside confidential information.
These forces are generally tugged against each other which pull the corporate towards a certain capital structure. Let’s consider the perspective of maximum value in both cases:
When debt is too much, the corporate will face distress with handling the finances as the firm will be expected to lose too much because of the debt. Furthermore, the firms will feel imposed by the owners of the personal taxes and will eventually suffer trust issues with other creditors too.
Talking about too little debt, the corporate will end paying too much to the income taxes of the corporate. This in turn will lead the firm to suffer from too much of seeking rent by the entire management including employees and other staff members too. This will affect the future of the company as the future will become unsure.
And hence, the mitigated policy of agency confliction is preferable by the management as they will instead pull the corporate towards too little debt along with too much equity which is least harmful for a better financial position of the firm.
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